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What happens when China dials back debt?

 

28 August 2018

 

 

China’s huge build up of debt after the global financial crisis was the locomotive that drove global growth. With the locomotive slowing, Mark Rider explores what happens next.

China, the world’s second biggest economy, built up huge amounts of debt after the global financial crises, with growth peaking at 30% in 2009. 

China credit growth

Source: Emerging Advisors Group

 

While the pace of growth has slowed since then, it has still outpaced the growth rate of the economy. As a result, the stock of debt has doubled to a little under 250% of GDP.

China credit as share of GDP

Source: Emerging Advisors Group

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Leveraging comes to an end

This rapid credit growth helped prop up post-GFC growth and supported investment markets. But China’s government has acknowledged that the earlier pace of credit growth was unsustainable. After undertaking another economic stimulus program in 2015 that pushed credit growth to over 20%, it has now more than halved to 8%.

What this means for markets

China’s ‘credit impulse’ is a measure of its changing growth of credit, relative to the size of its economy.

When you factor in a year’s lead time, China’s credit impulse shows a distinct correlation with returns from global equities over the last decade.

China credit impulse and % global equity returns

Source: Thompson Reuters Datastream, ANZ Wealth, Emerging Advisors Group

 

The moderation in equity returns so far this year is consistent with this trend of a fading credit impulse. There’s also been a sharp weakening in the credit impulse in recent times which can’t be ignored.

With the two largest economies – the United States and China – both implementing policy settings pointing to a slower economy, I believe an economic slowdown and weaker investment returns in 2019 look highly likely. Just how severe this slowdown will be is unclear right now, but we’ll be monitoring the situation closely. 

 

Read the full Investment Spotlight (PDF 457kB)

 

Mark Rider, Chief Investment Officer

Mark is responsible for delivering an overarching investment strategy, including asset allocation, investment themes, investment manager and product selection and monitoring for ANZ Wealth in Australia. Before joining ANZ in 2013, Mark spent 15 years at UBS and 10 years at the Reserve Bank of Australia, making him a well-recognised and respected member of the Australian investment community.

 

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