The information in this article is current as at 2 January 2022.
Part 1: Overview
Over the past 20 years China has managed one of the fastest sustained expansions by a major economy in history. It has risen to become both an economic and military superpower. Yet it has become clear that part of the economic miracle was based on an unsustainable debt fuelled infrastructure and property investment boom that now threatens to implode. Authorities are doing their best to deflect attention from the gravity of the situation, but the reality is very different.
While China’s largest property developer, Evergrande, has been garnering all the media attention, with reported liabilities in excess of US$300 billion, this is just the tip of the iceberg. A recent report by Standard and Poor’s (S&P) suggests that at least one-third of China’s property developers will struggle to meet their debts within the next 12 months1. Another report by Nomura, suggests that total debt owed by the sector is in the order of US$5 trillion2.
Rampant over development is not a new phenomenon but became supercharged about five years ago when a policy initiative to develop towns outside megacities began in earnest. While some were built to support manufacturing and e-commerce hubs, many now lie abandoned part way through construction as regulators moved to restrict lending. Ghost towns littered with empty apartment blocks, tourist hotels and even theme parks, along with brand-new roads to nowhere. The mantra ‘build it and they will come’ fails when there is no industry or jobs to provide employment to attract residents.
Given the property sector accounts for around 30% of GDP3, the effect that a slowdown will have on the broader industry (builders, labourers, tradesmen, bulky good suppliers and retailers, furniture retailers) suggests that there is no escaping the likelihood that growth will be materially lower over the next 12 months, with implications that inevitably will reverberate around the world. Capital Economics believes GDP could be as low as 3% in 20224. While many commentators believe that China will do whatever it takes to avoid a hard landing, any bail out or restructuring solution would only transfer the enormous debt problem from the corporate sector and local government financing vehicles to the State. Higher debt servicing costs will ultimately reduce the potential future growth rate of China’s economy.
In the United States, economic activity through 2022 is likely to be supported by an estimated US$16 trillion in cash stockpiled by households and small businesses5, a by-product of direct government stimulus cheques and shutdown induced savings. As these savings are progressively unleashed on goods and services, and businesses progressively restock pending the gradual resolution of supply chain disruptions, we would expect near term growth to remain strong.
Despite this largely positive outlook, the headline inflation rate has surged to 6.8%, the highest level since 1982. Although some of these inflationary pressures will ease as supply chain disruptions gradually dissipate, others are likely to remain stubbornly higher for longer than the Federal Reserve (‘The Fed’) predicts6. Rents have soared on the back of booming housing prices, insurance premiums on higher claims, energy on elevated northern winter demand, goods on higher input prices, and grain on higher fertiliser prices that will soon flow through to higher food prices. In addition, labour shortages exacerbated by a falling participation rate are exerting upward pressure on wages.
The lower participation rate has been largely due to a combination of factors including the absence of foreign workers, reticence to return for fear of contracting COVID-19 (particularly in public facing roles), and a choice by some not to return to low paid roles while they still have surplus savings from government stimulus cheques. As most can’t afford to stay out of the workforce for too long, we expect the participation rate to gradually normalise as household savings start to erode over the coming year.
The Fed has been slow to react to these inflationary pressures in the belief that they would be temporary. If it delays any further, it risks having to raise aggressively should inflation continue to spiral, which could be disastrous for equity markets and the economy generally. In December the Fed drastically revised its forward guidance and caved-in to market expectations. It now expects to end its bond buying program in March and raise interest rates three times in both 2022 and again in 2023.
In Europe the recovery has been more disjointed but aggregate output is expected to have finally surpassed pre-pandemic levels following a strong December quarter. The expansion is set to moderate only slightly in 2022 and remain above 4% as pent up demand and surplus savings are deployed by resurgent consumers. The key risk continues to be lockdowns as the Omicron variant takes hold, and input price pressures. In November inflation surged to a 29 year high of 6% in Germany and a record 4.9%7 for the Eurozone overall. As the inflation rate remains well above the European Central Bank’s (ECB) 2% target8, it is becoming increasingly likely that the ECB may have to begin tapering its quantitative easing program and lift interest rates well before its 2023 timetable.
Conclusion:
Although the near term outlook for global growth remains robust, the spectre of rising inflation leading to higher interest rates in the US and elsewhere that could lead to a sharp tightening of global financial conditions and significant capital outflows from emerging and developing economies cannot be ignored. Furthermore, the likelihood of a sharp slowdown in China as the property sector is forced to deleverage, coupled with ongoing virus uncertainty, pose moderate downside risks to growth forecasts over the next 12 months.
| Real (GDP) growth8 | 2021 | 2022 | 2023 |
| World | 5.6% | 4.5% | 3.2% |
| United States | 5.6% | 3.7% | 2.4% |
| Euro Area | 5.2% | 4.3% | 2.5% |
| China | 8.1% | 5.1% | 5.1% |
Part 2: Key Economic Indicators
United States
| Economic Snapshot | Last Reported Result | Comments |
| Growth (GDP)10 | 2.1% (annualised) Q3’21 | Economic growth moderated in the third quarter as a resurgence of COVID-19 cases resulted in new restrictions and delays in the reopening of establishments in some parts of the country. |
| Unemployment11 | 4.2% Nov’21 | The unemployment rate declined by 0.4% in November to 4.2%, with a further 210,000 jobs added over the month. There was significant job growth in professional and business services, transportation and warehousing, construction, and manufacturing, offsetting a decline in retail trade employment. |
| Industrial Production12 | 1.6% m/m Oct’21 5.1% y/y Oct’21 |
Industrial production rebounded in October as automakers, notwithstanding continued supply chain problems, posted a strong increase and the adverse effects from Hurricane Ida faded. |
| PMI Manufacturing13 | 61.1 Nov’21 59.9 Aug’21 |
November’s manufacturing Purchasing Managers Index (PMI) reading of 61.1 reflected an increase of 0.3 percentage points from October and continues to signal a manufacturing sector in expansion for a fifteenth successive month. |
| Retail Sales14 | 1.9% m/m Oct’21 14.8% y/y Oct’21 |
Retail sales remain strong on a yearly view with gasoline stations sales up 47% and sales from food services and drinking places 29% higher. |
| Credit Growth3 | 4.6% y/y Oct’21 | Credit increased by 4.6% year-on-year and stands at US$4.38 trillion. |
| Outlook | Growth in the United States is set to moderate over 2022 as stimulus measures are progressively wound back. Slower economic growth, the potential for higher-than-expected interest rates as well as new COVID-19 variants could potentially slow the United States economy more than expected. | |
Eurozone
| Economic Snapshot | Last Reported Result | Comments |
| Growth (GDP)15 | 2.2% q/q Q3’21 3.7% y/y Q3’21 |
The Eurozone grew strongly in the third quarter as the economy continues to recover faster than expected. |
| Unemployment6 | 7.3% Oct’21 | The unemployment rate declined slightly in October and stands at levels not seen since the start of the Covid-19 crisis. |
| Industrial Production6 | 1.1% m/m Oct’21 3.3% y/y Oct’21 |
Industrial production’s October rise was supported by strong increases in capital goods and energy. |
| PMI Manufacturing16 | 58.4 Nov’21 | The Manufacturing PMI confirmed the manufacturing sector expanded for a seventeenth successive month. |
| Retail Sales6 | 0.2% m/m Oct’21 1.4% y/y Oct’21 |
Retail sales increased in October, supported by rises of 1.3% in sales of automotive fuel and 3.2% in mail orders and internet sales. |
| Credit Growth6 | 5.6% y/y Oct’21 | The annual growth rate of total credit to euro area residents stood at 5.6% in October 2021, unchanged from the previous month. The annual growth rate of credit to general government decreased to 10.5% in October from 11.0% in September, while the annual growth rate of credit to the private sector increased to 3.7% in October from 3.4% in September. |
| Outlook | The Eurozone continues its resilient recovery, supported by increases in vaccination rates which has led to a further easing of virus containment measures. The solid fiscal support deployed since the start of the Covid-19 crisis and the recently launched European Recovery Fund should see the Eurozone economy grow strongly in 2022. Key risks to this lie in new coronavirus variants that could potentially see lockdown restrictions increase, as well as elevated energy prices and continued supply-chain bottlenecks. | |
China
| Economic Snapshot | Last Reported Result | Comments |
| Growth (GDP)17 | 0.2% q/q Q3’21 4.9% y/y Q3’21 |
China’s economic growth was negatively impacted by slowing industrial activity as a result of lower export demand and weaker credit growth. |
| Unemployment8 | 4.9% Oct’21 | The unemployment rate of 4.9% masks the extremely high youth unemployment rate of around 15%. |
| Industrial Production8 | 3.8% y/y Nov’21 5.3% y/y Aug’21 |
Industrial production was supported by stronger energy production and moderating prices of raw materials. |
| Manufacturing PMI18 | 49.9 Nov’21 50.1 Aug’21 |
China’s manufacturing PMI softened slightly in November suggesting a muted level of activity in the sector, driven by weaker demand. |
| Retail Sales8 | 3.9% y/y Nov’21 2.5% y/y Aug’21 |
Retail sales grew less than expected in November as China tightened social distancing measures, affecting leisure and hospitality businesses. |
| Fixed Asset (Urban) Investment8 | 5.2% y/y Jan-Nov’21 | Fixed Asset Investment (FAI) slowed in November to 5.2% year-on-year as the property slump deepened, affecting investment into the sector. |
| Outlook | China’s economic slowdown has gathered pace as a result of Beijing’s zero tolerance approach to containing the spread of the Delta coronavirus variant, the government’s increasingly green industrial policy and tighter regulation of the property and e-commerce sectors. A weakening credit impulse remains a factor we are watching closely given the importance of credit growth in driving economic activity within China. The commitment of policymakers to rebalance the economy away from investment-led growth is being challenged and should see overall economic growth track lower in 2022. | |
Japan
| Economic Snapshot | Last Reported Result | Comments |
| Growth (GDP)19 | -3.0% (annualised) Q3’21 | The Japanese economy contracted in the second quarter as a result of declines in exports, capital expenditure and consumption. |
| Unemployment20 | 2.7% Oct’21 | The unemployment rate decreased in October but remains higher than the level of 2.2% recorded in December 2019. |
| Industrial Production21 | 1.1% m/m Oct’21 -4.7% y/y Oct’21 |
Japan’s industrial output rose 1.1% in October from the previous month, the first increase in four months, thanks to an easing of materials and parts shortages. |
| Manufacturing PMI22 | 54.5 Nov’21 52.7 Aug’21 |
The latest reading of 54.5 marks the fastest pace of expansion in nearly four years. |
| Retail Sales12 | 1.1% m/m Oct’21 0.9% y/y Oct’21 |
Japan’s retail sales rose for the first time in three months but remain fragile and muted on a yearly view. |
| Outlook | Lockdown restrictions, a slow rollout to its vaccination program and global production bottlenecks have combined to delay Japan’s economic recovery, notwithstanding strong domestic and foreign demand. With the easing of restrictions as a result of higher vaccination rates, Japanese growth should gain traction in 2022. | |
1 S&P Global https://www.spglobal.com/ratings/en/research/articles/211027-china-property-watch-strains-in-the-key-of-b-12162219
2 Beyond Evergrande China’s Property Market Faces a $5 Trillion Reckoning, Wall Street Journal, 10 Oct21 https://www.wsj.com/articles/beyond-evergrande-chinas-property-market-faces-a-5-trillion-reckoning-11633882048
3 Peak China Housing, Rogoff & Yang 2020, December 2021 https://www.nber.org/system/files/working_papers/w27697/w27697.pdf
4 Capital Economics.
5 IMF, July 2020
6 US Bureau of Statistics https://www.bls.gov/cpi/
7 Eurostat https://ec.europa.eu/eurostat/documents/2995521/11563387/2-30112021-AP-EN.pdf/8072b1c7-4379-7fbe-af36-ec2300c42265
8 European Central Bank https://www.ecb.europa.eu/mopo/html/index.en.html
9 OCED, December 2021.
10 Bureau of Economic Analysis, https://www.bea.gov/
11 Bureau of Labour Statistics, https://www.bls.gov/
12 United States Federal Reserve, https://www.federalreserve.gov/
13 Institute of Supply Management (ISM), https://www.ismworld.org/
14United States Census Bureau, https://www.census.gov/
15 Eurostat, https://ec.europa.eu/eurostat
16 IHS Markit, https://ihsmarkit.com/index.html
17 National Bureau of Statistics, http://www.stats.gov.cn/english/PressRelease/202107/t20210715_1819447.html
18 China Federation of Logistics and Purchasing, http://en.chinawuliu.com.cn/cflp-pmi/ The Manufacturing PMI data is compiled by the China Federation of Logistics & Purchasing (CFLP) and the China Logistics Information Centre (CLIC), based on data collected by the National Bureau of Statistics (NBS). The Manufacturing PMI data is NOT the Caixin Manufacturing PMI.
19 Cabinet Office, https://www.cao.go.jp/index-e.html
20 Ministry of Internal Affairs and Communications, https://www.soumu.go.jp/english/
21 Ministry of Economy, Trade and Industry (METI), https://www.meti.go.jp/english/
22 Jibun Bank and IHS Markit, https://www.markiteconomics.com/
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