China will struggle to spend its way out of the coronavirus economic slowdown

February 3, 2020, 9:17 AM UTC

China’s stock markets plummeted early Monday as they reopened after an extended Lunar New Year holiday. But while the markets are back to work, many manufacturers remain closed. Fourteen major regions in China have lengthened the national holiday for another week as authorities grapple with how to contain the spread of the deadly new coronavirus.

The 14 regions, home to the majority of the economic powerhouses and ports that line China’s east coast, accounted for 69% of China’s $14.3 trillion GDP last year, according to Bloomberg. The majority of the cities will remain on holiday until February 10, while Hubei province—the epicenter of the outbreak that has so far infected 17,205 and killed over 360—will remain on leave until February 14.

Under normal circumstances, the longer holiday might be celebrated among workers, but the prolonged shutdown is cause for concern for policy makers, who will struggle to get China’s already-weakened economy back to work after the virus dies down.

Shutting down

The Chinese New Year, also known as Spring Festival, is normally marked by a five-day public holiday that begins on the first day of the Lunar New Year. Manufacturing output always falls during the break, as workers return home to their families, but the holiday is normally a major boon for merchants.

“The new year festival is when lots of businesses make their profit for the entire year,” said Patrick Perret-Green, head of research at London-based consultancy AdMacro.

Last year, domestic tourism generated over $145 billion in spending during the holiday period. This year, with travel slumping 30% over the same period in 2019, consumer spending is bound to take a fall as travel restriction and fear of contagion keep shoppers at home.

“Most businesses exist with very small margins so you don’t need a big loss of sales to have a very big effect,” said Perret-Green. For smaller retailers living on razor-thin margins, the loss of business could be dire but even companies with extra wiggle room will be more frugal in the year ahead, Patten-Green said, meaning the spending slowdown will have a long tail.

“There’s a short term hit to activity that is unlikely to be made up for later in the year. A loss of sales remains a loss of sales,” Perret-Green said.

Shot in the arm

In 2003 when China was in the grips of Severe Acute Respiratory Syndrome (SARS)—a viral epidemic of a similar nature to the current coronavirus outbreak—the local economy suffered a drop of 1.1%. With memories of that epidemic still fresh, policymakers in Beijing already have enacted much harsher measures to prevent the spread of the new coronavirus and to limit the scope of its economic fallout.

Tommy Wu, senior economist at Oxford Economics in Hong Kong, estimates China’s GDP growth will slow by two percentage points in the first quarter alone, costing roughly $60 billion. However, Wu anticipates there will be a strong recovery by the third month, bolstered largely by government intervention.

“We expect policy measures will be rolled out to target sectors and geographic regions that are affected. We also expect policymakers to roll out measures to support the broader economy, especially after the virus outbreak is under control,” Wu said.

Some measures are already in place. As trading resumed Monday, the People’s Bank of China injected $173 billion into the money markets through reverse repurchase agreements. The central bank cut interest rates on the reverse repurchase agreements by 10-basis points to stimulate more liquidity in the market.

Under guidance from the China Banking Insurance and Regulatory Commission (CBRIC), major banks have cut interest rates for borrowers and pushed back repayment dates on loans in certain areas that have been hit particularly hard by the outbreak.

Unsustainable growth

Wu expects future policies to focus on more tangible sectors of the economy and will likely include support for infrastructure spending and advanced manufacturing. However, following a two year trade war with the U.S., Beijing is not well-positioned to sustain support for the economy.

“The fact that policy makers will have to engage in even more risky stimulus to cushion the blow of this is pretty worrying in terms of how it might erode the already pretty weak macroeconomic fundamentals,” said The Economist Intelligence Unit (EIU) lead on global trade Nick Marro, citing issues such as bad debts, low productivity, and weak private sector investment activity.

China’s household debt rose to a record high of 55% of GDP in Q3 last year, the Institute of International Finance (IIF) reported in January. China’s overall debt was close to 310% of GDP—one of the highest in emerging markets.

Meanwhile, manufacturing productivity slowed to a five month low of 51.1 in January, according to the Caixin purchasing managers index (PMI), which surveys small to medium enterprises (SMEs). The PMI survey was taken before Beijing started to move against the coronavirus epidemic, so manufacturing will likely dip further in February.

The EIU, for its part, predicts the current epidemic could knock two percentage points off of its forecast for China’s economic growth in 2020, dropping the rate to as low as 3.9%—significantly lower than the roughly 6% growth rate Beijing maintains as a psychological threshold.

“Before all this happened we were expecting those factors and risks would have subsided,” Marro said, “but the coronavirus has thrown a wrench into those plans.”

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