Macro Monday:Policy makers’mid-year review

China stocks retreated on regulation concerns: Last week H- and Asharesfell 0.8% and 1.1%. China stocks tumbled last Wed as media reportedthe CBRC’s potential tightening on wealth management products (WMPs).

Global macro environment remains challenging. US GDP grew adisappointing 1.2% in 2Q (consensus: 2.6%) and Brent oil price slumped 13%in the past 10 days. Last week, the FOMC stayed on hold as expected whilethe BoJ disappointed again in terms of new easing measures. Meanwhile, theChinese economy looks stable at this moment as suggested by highfrequencydata such as steel and power production (July data preview).

Passenger vehicle sales are on track to around 20% in July on low base androbust demand. PPI deflation could narrow to 2% in July, a far cry from 6% in4Q15. Such reflation trend bodes well for corporate earnings (Thoughts onearnings cycle, April 2016), as industrial profits released last week showed6% growth in 1H16 vs. 2% decline in 2015. Last week the RMB hit the onemonthhigh against the US$.

Policy makers’ mid-year review: Like us, China’s top leaders also do midyearreviews regularly. Last Tuesday, Politburo members gathered to reviewthe economy in 1H16. 1) They reiterated the three main tasks: (appropriate)demand expansion, supply-side reform and expectation management, whichare exactly what the “authoritative” person said back in May in People’s Daily.

Our interpretation is in How to interpret ‘L-shaped growth’ (May 2016). 2) theymentioned “curbing asset bubble” for the first time in such a high-levelmeeting. The most likely candidate must be property. To be sure, China’sproperty market is so diverged that for a majority of cities, the issue is notproperty price bubble but high inventory level. But since policy makers haveopenly expressed such concerns, the chance of an imminent RRR or interestrate cut is very low. 3) they reiterated “maintain RMB stable at a reasonableand equilibrium level”. We read it as, barring a super strong or weak US$,the USD/CNY would most likely end this year at 6.6-6.8.

Potential tightening on WMPs: Last week media reported that the CBRC isconsidering stricter regulations on WMPs. Based on our reading, the keyhighlights are: (1) In the future, only trusts could be used as the channel toinvest in non-standard credit instruments. Currently, brokers and mutual fundscould conduct such channel business as well. (2) The threshold forconducting WMP business, especially those related to non-standard creditinstruments, would be much higher than now. Such regulation tightening isnot too surprising, given WMP has grown into a $US4tn business at anincredibly fast speed and “asset bubble” has become the concern at the toplevel. If announced, the new regulation could negatively impact liquidity in thefinancial market. How to strike a balance between regulation and marketstability would be the big headache for regulators in the coming months.

1H provincial GDP shows continued divergence: Most provinces havereported 1H16 GDP data. One doesn’t need to be too serious on the headlinenumbers, but the relative ranking is still useful. The key takeaway is thatChina is not one economy, but is comprised of several economies.

Specifically, some northern provinces are even worse than Japan while someinland provinces still maintained double-digit growth, driven mostly bygovernment investment. Meanwhile, coastal provinces are relatively stable,thanks to their economic structure which is more sophisticated than theprevious two groups’. Such divergence makes macro policy really tricky toconduct in China.