A ‘hard landing’ by the Chinese economy would have substantial repercussions for global output, but the size and duration of the shock would vary by region and from country to country, according to Fitch Ratings although a hard landing is not the credit ratings agency’s (CRA) base case.
An alternative scenario analysis in Fitch’s latest ‘Global Economic Outlook’ shows that a hypothetical hard landing that resulted in a cumulative loss of four percentage points (4pp) of Chinese gross domestic product (GDP) in two years would slow global growth by 1.5pp.
Modelling a series of shocks to the Chinese economy in Q412 resulted in projected Chinese growth falling by 300bp in 2013 and an additional 100bp in 2014. The resulting real GDP growth of 5% in 2013 and 6.5% in 2014, while still high, would be the lowest in China in more than 20 years.
The biggest immediate spill-over would be on countries with the closest trade and financial links to China. In emerging Asia, Taiwan, Korea and Thailand would be hit the hardest. In Taiwan, the slowdown would be in excess of 200bp in 2013. Among major advanced economies (MAEs), Japan would be the most affected, with an 80bp slowdown. Eurozone members, the US and UK would be less sensitive to a Chinese hard-landing in 2013. In Russia, and to a smaller extent in Brazil, the projected fall in oil and commodity prices would magnify the shock.
The extent to which the shock is still felt in 2014 varies with countries’ capacity to respond. Emerging countries have more monetary and fiscal policy options than those MAEs where interest rates are already close to zero and where fiscal consolidation is dragging on growth. This effectively means that the impact of the shock is twice as big in the US and the eurozone in 2014 (60bp and 90bp, respectively) than in 2013. By contrast, the impact in both Korea and Taiwan in 2014 is less than half that of the previous year.
Building on an alternative scenario analysis by Oxford Economics, Fitch’s hypothetical hard landing assumes a 40% fall in Chinese house prices; a steep fall in construction activity; a sharp rise in non-performing loans (NPLs) to 20% (including loans to local governments), which stops the flow of credit through the banking system while it is recapitalised by central government; and a 40% fall in the Chinese equity market, triggering contagion to other major emerging countries.
The CRA also assumes a 100bp increase in risk premia for all emerging markets. Lastly, it adds an additional 10% fall in oil and other commodity prices on top of the model’s endogenous price response to lower demand.
Fitch maintained its 7.8% forecast for China’s GDP growth in 2012 in the ‘Global Economic Outlook’. Looser credit is contributing to a re-acceleration of the economy in Q4, and the CRA expects modest monetary and public-investment stimulus to support growth of around 8% in 2013. In the medium term, China faces a challenging transition towards a more consumption-led growth model.
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