China Update

China reports several key pieces of economic data this week, including inflation, trade, investment and retail sales. Ironically, just as many are talking about green shoots among major industrialized economies (note OECD leading economic indicator reported today rose to 93.2 from 92.7 in March, with all members' readings increasing), China's greenshoots may not be so evident in the upcoming data.

Deflationary forces continue to grip the economy. Producer prices are expected to accelerate their decline falling nearly 7% in May after a 6.6% year-over-year fall in April. Consumer prices are expected to stand 1.3% below year ago levels. Urban fixed investment is expected to remain robust--this is after all effect of the spending by the national and local governments. Yet investment appears to have reached a point of diminishing returns, every new unit of investment appears to have less impact on the economy.

The May trade surplus may expand, but at an overall lower level of activity. Exports, which fell 22.6% in April year-over-year, are expected to have declined by a somewhat faster rate in May. However, the rising price of a number of commodities may see imports stabilize.

Some Chinese officials have complained that although they do not want to accumulate more dollars, they have no choice. They have a choice. They could stop running such large trade surpluses. Domestic consumption accounts for a smaller part of China's GDP than say in 2000.

Moreover, China shows no strong inclination to allow its export engine to falter. Just today, China announced it would boost tax rebates on some electronic, machinery, steel and toy exports. The former two could get 15-17% increase in tax rebates, while some steel products would get a 9% increase in the tax rebate, while toy, furniture and shoe rebates would rise by as much as 15%.

Over the past 12 months, the Chinese renminbi has appreciated 1.26% against the US dollar. The 12-month forward has fell for the fifth consecutive day today,, the longest losing streak in nearly two months. The broad dollar recovery, coupled with expectations that China will post its seventh consecutive month that exports fell, has bolstered ideas that China will limit the appreciation of the renminbi for at least the next few quarters. At today's indicative prices, the 12-month NDF implies almost a 1.6% appreciation of the renminbi.

Lastly, note that the USA steel workers are seeking protection from Chinese tire exports. It is the first claim being brought under Section 421 during the Obama administration. This is the rule created when China joined the WTO in late 2001 that allows member countries to restrict Chinese imports if they decide that they are being flood with Chinese goods and it is damaging domestic business. The USW claim some 7k jobs have been lost and wants tire imports from China to be cut back to 2005 levels (21 mln from 46 mln in 2008). China and some tire importers argue that US producers were already moving out of the low-end market where Chinese producers focus.

The Bush Administration refused to enforce International Trade Commission recommendations, which is the US-body that hears such complaints. While the US appears never to have acted under Section 421 complaints, other countries have begun, allowing the Rubicon to be crossed by others. India, for example, has reportedly filed four such cases this year. The Obama administration's reaction will be scrutinized for insight into trade policy in general.