Portfolio manager says shift to consumer-driven dynamic, geopolitical tensions imply new challenges
As investors across the world weigh the prospects of near-term recession and economic slowdown, many are hoping that a resurgence in Chinese demand could be the tailwind needed for much-needed global growth. But those hoping for China to be the superpower it once was should temper their expectations, according to one investment professional.
The positive impact of Chinese demand on the global economy should be most apparent in the first and second quarters, says Tracy Chen, portfolio manager at Brandywine Global Investment Management, a specialist investment manager of Franklin Templeton.
“For the past three years, we’ve had a very drastic COVID-zero policy in China. When you suddenly open the economy, there's so much activity going on from that pent-up demand,” Chen says. “We have been witnessing a very strong rebound in economic activity.”
With the most recent PMI data showing a jump in services to the neighbourhood of 64, she says the recovery in China so far has exceeded expectations. The fact that China is in a different stage of the economic and monetary policy cycle relative to the U.S. and Europe means it could offset a prospective Western recessionary trend – to a certain extent.
“This time around, Chinese demand is a little different from previous cycles,” Chen says. “I think this recovery is more driven by consumption or domestic services activity. It's not driven by property market construction or infrastructure building, so the demand for commodities might be a little weaker than before.”
Because China’s economic engine will turn more on the piston of domestic consumption, it will likely not be as much of a beneficial partner for commodity exporters in the emerging-market world. On the other hand, Chen expects those that have been traditional destinations for Chinese tourism like Singapore, Thailand, and some European countries will probably see a revival in the services and consumption boost from returning vacationers.
“There’s also a secular trend of the U.S. reshoring and onshoring certain manufacturing activities. Some EM countries should benefit from this shift in supply chain,” she adds. “We’re already seeing this in the Mexican peso, which has been the best performer among EM currencies for the past year.”
If China does take off again, it won’t be an unburdened flight. Chen highlighted the amount of leverage in the country, with corporate debt representing at least 200% of GDP and a concerning rate of household debt growth. While household debt has eased more recently amid a rush of borrowers repaying their mortgage debts, Chinese policymakers will still be constrained in terms of hiking the country’s interest rate as they look to avoid overburdening corporations with steep borrowing costs.
Mounting geopolitical pressures are another headwind, particularly on the technology front. With the U.S. and a growing number of allied countries aligning to ban semiconductor exports to China, the question now is whether the country can innovate and upgrade its chip manufacturing capabilities to be self-sufficient and competitive in the tech space.
“We know China is trying to wean itself from property market-driven growth to consumption-driven growth. But I think we’ll see growing pains,” Chen adds. “To support consumption, I think the country has to improve its social safety nets, and make sure people’s income levels are quite robust. But for the past three years, we see income growth has been slowing down.”
Notwithstanding those clouds on the horizon, China has certainly come a long way from the “uninvestable” tag investors attached to it in 2021. After the NPC meetings, Chen says the China’s new premier Li Qiang has repeatedly banged the drum on the country’s “open for investment” message to foreign investors, and is focusing on creating a friendly environment for investors. There’s also fresh news of Chinese IPOs including Alibaba, which is trying to go public again after splitting into six parts, and JD.com.
“You can see a lot of excitement and kind of upbeat news about the Chinese economic environment and investment market,” Chen says. “So far, I think foreign investors are paying attention to China again.”
