China’s been increasingly modest with its forecasts for growth. Problem is, even those are still managing to seem slightly out of reach for the world’s second-biggest economy. And that’s starting to have spillover effects everywhere.

🕰 Recap

• Back in March, China’s government officially set an economic growth target of “around 5%” for 2023 – the lowest in over three decades.
• Investors were hoping for a target above 5%, but many figured that the Chinese government had purposely set a modest objective that’d be easier to meet, after falling far short of its goal in 2022.
• That humble approach might pay off: after flexing its muscles at the start of the year, China’s economy is starting to lose some steam, raising doubts about its recovery following years of strict Covid-related restrictions.

✍️ Connecting The Dots

China’s economy was off to a good start at the beginning of 2023, growing by 4.5% year-over-year in the first three months – its strongest pace since the first quarter of 2022. That handily beat estimates for a 4% gain and was far better than the 2.9% advance registered in the previous quarter. But things have gone downhill ever since. Official figures for April, for example, showed industrial output, retail sales, and fixed investment all grew at a much slower-than-expected pace.

Then the latest purchasing managers’ index (PMI) out on Wednesday showed China’s economic recovery weakened even further in May, raising fresh fears about the outlook for growth in the world’s second-biggest economy. The manufacturing PMI unexpectedly fell to a five-month low of 48.8, down from 49.2 in April and even further below the critical 50-point mark – above which is expansion and below which is contraction. A non-manufacturing gauge of activity in the services and construction sectors, meanwhile, also slid to a worse-than-expected 54.5 from 56.4 in the previous month.

The activity slump prompted more calls for the Chinese central bank to take action by, for example, cutting interest rates or lowering the reserve requirement ratio for banks. But while these measures may provide a temporary boost, they’re unlikely to significantly improve consumer and business confidence, which remains very low. The extent of China's economic recovery also hinges on a revival in its property market, which, together with related sectors, makes up around one-fifth of the economy. However, home sales have seen their curb appeal decline, and real estate developers continue to face financial troubles.

🥡 Takeaways

1. When China sneezes…

The worse-than-expected PMI data sparked a selloff in everything tied to China, from the yuan to industrial commodities. The carnage even spread to the wider Asian Pacific area, with regional stocks falling sharply on Wednesday alongside the Australian and New Zealand dollars. But it’s in Chinese stocks that investors are really hurting: a key measure of the country’s shares listed in Hong Kong has now dropped over 20% from its January peak, meaning it’s officially in “bear market” territory. That prompted several investment bank analysts who had previously been optimistic on China to start retreating in frustration, marking a sharp reversal from earlier this year when almost everyone was recommending buying the country’s shares.

2. Still, other neighbors appear hale and hearty.

As frustration over China’s stock market performance increases, some of Asia’s other major markets are emerging as more attractive alternatives for global investors. That includes the tech-heavy markets of South Korea and Taiwan, whose world-leading semiconductor companies are benefiting from the booming demand for all things AI. It also includes India, where the stock market is already close to an all-time high, with the country receiving a flurry of investor attention since April, when it surpassed China as the world’s most populous nation. And finally, it includes Japan, where corporate reforms and a recent endorsement by Warren Buffett have stirred excitement for the nation’s undervalued stocks, sending them to a three-decade high.

🎯 Also On Our Radar

The US passed debt-limit legislation that restricts government spending until the 2024 election and averts a potentially catastrophic debt default. The deal also represents a big shift in curbing spending, after all the Covid-related bailouts, and, more recently, infrastructure and climate change initiatives. But economists widely project that the overall impact of reining in all that spending will be minimal, potentially tempering growth next year by a couple of tenths of a percentage point.