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Slower Credit Growth Drags on Chinese Economy

Daniel Rohr, CFA

Dan Rohr: Despite the appearance of steady growth in official GDP and other headline measures, China's economy has likely been cooling for the past several months. Morningstar's power proxy, which sums GDP-weighted sectoral electricity demand to estimate changes in total economic output, has signaled slowing growth since September. Deceleration is also evident in other alternative measures. For example, our raw-materials-based proxy of fixed-asset investment suggests spending growth slipped from about 3% in the third quarter to nearly zero in the fourth quarter.

That's important because fixed-asset investment accounts for 44% of Chinese GDP. We're also seeing some signs of softness in consumer spending, although not nearly to the same extent that we are on the fixed-asset investment side of the economy.

Why is China's economy slowing? Largely because the stimulus that led to the most recent economic upswing is being withdrawn. Historically, credit has led economic activity in China by six to 12 months, so the slowdown we're seeing now is a consequence of waning credit growth from earlier in 2017. With credit growth continuing to slow in the fourth quarter, we expect the economy will decelerate further in the first half of 2018, especially on the more credit-sensitive fixed-asset investment side of the economy.

Despite slower credit growth in 2017, economy-wide leverage continued to rise. We estimate total debt-to-GDP in China reached about 260% at year end. That was largely due to an increase in household mortgage debt. China's once lightly leveraged households now carry one of the heaviest debt burdens among major middle-income countries at nearly 50% of GDP. That's up from only 11% a decade ago.

While we continue to expect consumer spending to perform fairly well in the decade to come, especially relative to fixed-asset investment, the growing household debt burden is becoming a greater concern.