m o r g a n s t a n l e y r e s e a r c h january 2009 morgan stanley asia limited qing wang chief...

M O R G A N S T A N L E Y R E S E A R C H

January 2009

Morgan Stanley Asia Limited

Qing WangChief Economist – Greater [email protected]+(852)2848-5220

China Economics

2009: Getting Worse Before Getting Better

Research

Asia/Pacific

Source: CEIC, Morgan Stanley Research For important disclosures, refer to the Disclosures Section, located at the end of this report.

A Six-month Journey From Overheating To Hard Landing

2Qing Wang, (852)2848-5220, [email protected]

2009 Outlook: Getting Worse Before Getting Better

Recent Developments: On the back of a gradual deceleration in exports, the policy-induced sharp slowdown in real estate investment growth was exacerbated by a massive destocking, which in turn was triggered by the collapse of international commodity prices in the aftermath of intensification of global deleveraging.

Macroeconomic Outlook: China’s economic outlook for 2009 will be best characterized as ‘getting worse before getting better,’ laying the foundation for a firmer recovery in 2010. In 1H09, further growth deceleration is expected and deflation is a distinct possibility. The effect of massive policy stimulus implemented since October 2008, together with a tepid recovery in G3 economies, is expected to help the Chinese economy regain some growth momentum in 2H09.

Policy Outlook: The authorities have already made delivering economic growth a top policy priority by adopting a campaign-style policy execution approach. On the fiscal policy front, the Rmb4tn stimulus package, of which Rmb1.18tn will be funded out of central government budget, is unlikely to be the first and only stimulus package for the entire year, in our view. On the monetary policy front, in view of the high risk of deflation, we expect that benchmark interest rates will be cut aggressively by an additional 135bp over the course of 2009. The rate cuts will most probably be frontloaded in 1H09, which is necessary because of the need to prevent deflationary expectations from getting entrenched.

Risk: We construct two alternative scenarios: the bear (featuring 5% GDP growth) and bull (9% GDP growth) cases to highlight both the downside and upside risks to the 2009 outlook under our base case (7.5% GDP growth). Real estate investment will be the biggest swing factor between scenarios.

Implications: While public-sector-driven growth will help achieve the headline GDP growth and job creation targets and thus limit the extreme downside risk of an outright hard landing, it will unlikely be able to deliver nearly as strong corporate earnings growth as when the same level of headline GDP growth is fueled by buoyant private sector spending. This would likely be a relatively ‘job-rich’ but ‘profit-deficient’ macroeconomic environment where bonds tend to be favored over equities. Within the equity space, sectors/companies with high earnings visibility and/or those exposed to government-supported capex will likely outperform. A deflationary environment generally favors bond holders (or creditors) over equity investors (or debtors).


Source: Morgan Stanley Research

China’s Policy Stance: Muddling Through

China’s Policy Stance: Aggressive Tightening

GlobalSynchronized Downturn

Autumn:

Imported Soft Landing

Summer:

Overheating

Winter:

Outright Hard Landing

Spring:

Policy-induced Soft Landing

No Global Synchronized Downturn

The Four-Seasons Framework: Where Did We Get It Wrong Or Right for 2008?


Made in the US: A Six-month Journey From Overheating To Hard Landing

Low Interest Rates

Crisis Management

by US Fed

Liquidity Injection

Super-loose Monetary Policy

Sub-primeCrisis Weak US Dollar

Inflationary Pressures on the RoW

Still Robust Real Economic

Activity

Macroeconomic Policy Tightening by

the RoW

Lehman’s Bankruptcy Slowdown in Real Economic Activity

Sharp Rise in

Commodity Prices

Sharp Fallin

Commodity prices

Inventory Buildup

De-stocking of Industrial Materials

Intensificationof Financial Deleveraging

DisinflationDeflation

Collapse in

Industrial Production

Disruption ofTrade Financing


Unscathed by the Global Financial Crisis…

Source: Bloomberg, Morgan Stanley Research

High FX Reserves (US$1.9 trillion)

Low Government Debt (25% of GDP)

Low Household Debt (11% of GDP)

Low External Debt (11% of GDP)

Low Loan-deposits Ratio (65%)

0

1000

2000

3000

4000

5000

6000

Qa

tar

Isra

el

Cze

ch

Ch

ina

Ch

ile

Po

lan

d

Eg

yp

t

Ma

lay

sia

Me

xic

o

Th

ail

an

d

Pe

ru

Bra

zil

Co

lom

bia

Ko

rea

Hu

ng

ary

So

uth

Afr

ica

*In

dia

Tu

rke

y

Ph

ilip

pin

es

Bu

lga

ria

Vie

tna

m

Ro

ma

nia

Ind

on

es

ia

Ru

ss

ia

Ve

ne

zu

ela

Uk

rain

e

Pa

kis

tan

Arg

en

tin

a

Leading EM Countries 5Y US$ CDS(Dec 5, 2008)


…Reflecting Balance Sheet Strength

Government Debt, % of GDP

0

20

40

60

80

100

120

Hong K

ong

Austra

lia***

Indo

nesia

Taiwan

China

Korea

Mala

ysia US UK

Thaila

nd

India

- FY*

Philipp

ines

Singap

ore

Household Debt, % of GDP

0

20

40

60

80

100

120

Philipp

ines

Indo

nesia

China

India

- FY*

Thaila

nd

Hong K

ong

Taiwan

Mala

ysia

Singap

ore*

*

Korea

UK US

Austra

lia***

Mortgage Debt, % of GDP

0

20

40

60

80

100

120

Philippines

Indon

esia India

China

Thaila

ndKore

a

Malay

sia

Taiwan

Hong Kong

Singapore UK

Australia

*** US

External Debt, % of GDP

0

20

40

60

80

100

120

140

160

Sources: CEIC, Morgan Stanley Research*indicates data for India as of Financial Year 2008;** data as of Mar-07; ***data as of Jun-07


Imported Soft Landing?

Source: CEIC, Bloomberg, Morgan Stanley Research

0

10

20

30

40

50

60

Jan-

00Ju

l-00

Jan-

01Ju

l-01

Jan-

02Ju

l-02

Jan-

03Ju

l-03

Jan-

04Ju

l-04

Jan-

05Ju

l-05

Jan-

06Ju

l-06

Jan-

07Ju

l-07

Jan-

08Ju

l-08

Jan-

09Ju

l-09

-10

-5

0

5

10

15

Exports (%yoy, 3mma)

OECD leading indicator (%yoy, 6m lead, rhs)

10

15

20

25

30

35

40

45

50

Jan

-05

May

-05

Sep

-05

Jan

-06

May

-06

Sep

-06

Jan

-07

May

-07

Sep

-07

Jan

-08

May

-08

Sep

-08

Jan

-09

May

-09

10

15

20

25

30

35

40

45

50Exports: Ordinary Trade (3-quarter lead)

Fixed Assets Investment in Mft sector

(%Y

oY, 3

mm

a)


Homemade Hard Landing?


-30

-20

-10

0

10

20

30

40

50

60

Jan-04

Jul-04

Jan-05

Jul-05

Jan-06

Jul-06

Jan-07

Jul-07

Jan-08

Jul-08

Jan-09

Floor Space Started (%YoY, 3mma)

Floor Space Sold (%YoY, 3mma) -20

-10

0

10

20

30

40

50

Jan-0

5Ma

r-05

May-0

5Ju

l-05

Sep-0

5No

v-05

Jan-0

6Ma

r-06

May-0

6Ju

l-06

Sep-0

6No

v-06

Jan-0

7Ma

r-07

May-0

7Ju

l-07

Sep-0

7No

v-07

Jan-0

8Ma

r-08

May-0

8Ju

l-08

Sep-0

8No

v-08

Steel production

Non-real estate investment

Real Estate Investment

Electricity usage

%YoY


A Perfect Storm for Deflation: Demand Shocks


10

12

14

16

18

20

22

24

Jan-98Jul-98Jan-99Jul-99Jan-00Jul-00Jan-01Jul-01Jan-02Jul-02Jan-03Jul-03Jan-04Jul-04Jan-05Jul-05Jan-06Jul-06Jan-07Jul-07Jan-08Jul-08Jan-09Jul-09

-4

-2

0

2

4

6

8

10M2 (%YoY, 10-month lead)

CPI (%YoY, rhs)

-30

-20

-10

0

10

20

30

40

50

60

97 98 99 00 01 02 03 04 05 06 07 08-5

-3

-1

1

3

5

7

9

11Exports (%YoY)

CPI (%YoY, rhs)

Aftermath of the Asian crisis

Aftermath of the internet bubble


A Perfect Storm for Deflation: Supply Shocks


-12

-9

-6

-3

0

3

6

9

12

15

Jan

-97

Oct-9

7

Jul-9

8

Ap

r-99

Jan

-00

Oct-0

0

Jul-0

1

Ap

r-02

Jan

-03

Oct-0

3

Jul-0

4

Ap

r-05

Jan

-06

Oct-0

6

Jul-0

7

Ap

r-08

Jan

-09

-40

-30

-20

-10

0

10

20

30

40

50PPI (%yoy)

CRB Index: Raw Industrials(%YoY, 6-month lead, rhs)

-6

-4

-2

0

2

4

6

8

10

12

Oct-9

6

Ap

r-97

Oct-9

7

Ap

r-98

Oct-9

8

Ap

r-99

Oct-9

9

Ap

r-00

Oct-0

0

Ap

r-01

Oct-0

1

Ap

r-02

Oct-0

2

Ap

r-03

Oct-0

3

Ap

r-04

Oct-0

4

Ap

r-05

Oct-0

5

Ap

r-06

Oct-0

6

Ap

r-07

Oct-0

7

Ap

r-08

Oct-0

8

-2

-1

0

1

2

3

4PPI Non-food CPI (rhs)

%Y

oY

-10

0

10

20

30

40

50

Jan

-01

Jul-

01

Jan

-02

Jul-

02

Jan

-03

Jul-

03

Jan

-04

Jul-

04

Jan

-05

Jul-

05

Jan

-06

Jul-

06

Jan

-07

Jul-

07

Jan

-08

Jul-

08

CPI - Food: Grain

CPI - Food: Meat%Y

oY

150

250

350

450

550

5/2

6/1

98

1

8/2

/19

82

10

/7/1

98

3

12

/13

/19

84

2/2

1/1

98

6

4/3

0/1

98

7

7/7

/19

88

9/1

3/1

98

9

11

/19

/19

90

1/2

8/1

99

2

4/5

/19

93

6/1

0/1

99

4

8/1

7/1

99

5

10

/23

/19

96

12

/31

/19

97

3/1

2/1

99

9

5/1

9/2

00

0

7/3

0/2

00

1

10

/8/2

00

2

12

/17

/20

03

3/2

/20

05

5/9

/20

06

7/2

0/2

00

7

9/2

6/2

00

8

8/1

0/2

00

9

KR-CRB Spot Commodity Index


Fiscal Policy Response Is the Key


-20

0

20

40

60

80

100

Jan-

96

Oct

-96

Jul-9

7

Apr

-98

Jan-

99

Oct

-99

Jul-0

0

Apr

-01

Jan-

02

Oct

-02

Jul-0

3

Apr

-04

Jan-

05

Oct

-05

Jul-0

6

-50

-30

-10

10

30

50

70

90

110

130

150Exports (%yoy, 3mma)

Govt. Capex (%yoy, 3mma, rhs)Asia financial crisis

Internet bubble burst

-20

0

20

40

60

80

100

Jan

-96

Jul-

96Ja

n-9

7Ju

l-97

Jan

-98

Jul-

98Ja

n-9

9Ju

l-99

Jan

-00

Jul-

00Ja

n-0

1Ju

l-01

Jan

-02

Jul-

02Ja

n-0

3Ju

l-03

Jan

-04

Jul-

04Ja

n-0

5Ju

l-05

Jan

-06

Jul-

06

-10

0

10

20

30

40

50Exports (%yoy, 3mma)

FAI growth (%YoY, 3mma, rhs)

Asia financial crsisInternet bubble burst


Macroeconomic Forecasts

Source: CEIC, Bloomberg, Morgan Stanley Research. E = Morgan Stanley Research estimates

2007 2008E 2009E 2010E

Growth rate (%)GDP 11.9 9.4 7.5 8.5

Consumption 8.8 8.5 7.8 8.2Investment 11.1 10.3 8.7 9.5

Mining 12.8 13.0 12.0 12.0Manufacturing 17.0 14.0 5.0 10.0Real estate 18.5 13.5 -6.0 10.0Infrastructure 6.8 9.2 38.0 15.0Other 4.5 4.0 1.5 4.0

Net exports * 2.4 0.9 0.0 0.5

Exports (US$ terms) 25.6 19.0 3.0 9.0Imports (US$ terms) 20.7 27.0 4.2 12.0Trade Balance, US$ bn 262 236 228 211 % of GDP 8.0 5.6 4.7 3.7CPI 4.8 6.5 1.5 3.0

Contribution to growth (percentage points)

GDP 11.6 9.2 7.5 8.5Consumption 4.3 4.2 3.8 4.0Investment 4.9 4.1 3.6 4.0

Mining 0.3 0.3 0.3 0.3Manufacturing 2.2 1.8 0.6 1.3Real estate 1.4 1.0 -0.5 0.8Infrastructure 0.5 0.5 3.0 1.2Other 0.5 0.5 0.2 0.5

Net exports 2.4 0.9 0.0 0.5* Contribution to growth

5

5.5

6

6.5

7

7.5

8

8.5

9

9.5

10

1

5

6

7

8

9

10

11

12

13

6

7

8

9

10

11

12

13

14

1Q 06

2Q 06

3Q 06

4Q 06

1Q 07

2Q 07

3Q 07

4Q 07

1Q 08

2Q 08

3Q 08

4Q 08

1Q 09

2Q 09

3Q 09

4Q 09

1Q 10

2Q 10

-4

-2

0

2

4

6

8

10

12

Proj.

G3 GDP (YoY%, rhs)

China GDP(YoY%)


Renminbi: The Last EM Currency Standing?

6.2

6.6

7.0

7.4

7.8

8.2

Au

g-0

5

No

v-0

5

Fe

b-0

6

Ma

y-0

6

Au

g-0

6

No

v-0

6

Fe

b-0

7

Ma

y-0

7

Au

g-0

7

No

v-0

7

Fe

b-0

8

Ma

y-0

8

Au

g-0

8

No

v-0

8

98

102

106

110

114

118

122

USD/CNY

CNY NEER (Jul 22, 2005 =100, rhs)

Appreciation

Sources: BIS, CEIC, Bloomberg, Morgan Stanley Research

-45%

-35%

-25%

-15%

-5%

5%

15%

Ko

rea

Ch

ile

Bra

zil

Ind

on

esia

Ind

ia

Me

xic

o

Hu

ng

ary

Ph

ilipp

ine

s

Po

lan

d

Ru

ssia

Cze

ch

Ma

laysia

Arg

en

tina

Sin

ga

po

re

Th

aila

nd

Ho

ng

Ko

ng

Ch

ina

Appreciation Against US dollar in 2008 (as of November)

-35%

-30%

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

15%

Ko

rea

Ch

ile

Bra

zil

Me

xico

Ind

on

esia

Ph

ilipp

ine

s

Ind

ia

Hu

ng

ary

Po

lan

d

Ma

laysia

Ru

ssia

Th

aila

nd

Ta

iwa

n

Cze

ch

Arg

en

tina

Ho

ng

Ko

ng

Ch

ina

NEER Appreciation in 2008 (as of November)

Decline of MSCI Indices Since Aug 2008(as of Dec 8, 2008)

-70%

-60%

-50%

-40%

-30%

-20% Ru

ssia

Arg

en

tina

Hu

ng

ary

Ind

on

esia

Bra

zil

Po

lan

d

Ko

rea

Cze

ch

Sin

ga

po

re

Ind

ia

Ta

iwa

n

Ch

ile

Th

aila

nd

Me

xico

MS

CI E

uro

pe

Ma

laysia

MS

CI C

hin

a

Ph

ilipp

ine

s

SP

50

0

Jap

an

Ch

ina

(A-sh

are

)


5

10

15

20

25

30

Jan-

99

Jul-9

9

Jan-

00

Jul-0

0

Jan-

01

Jul-0

1

Jan-

02

Jul-0

2

Jan-

03

Jul-0

3

Jan-

04

Jul-0

4

Jan-

05

Jul-0

5

Jan-

06

Jul-0

6

Jan-

07

Jul-0

7

Jan-

08

Jul-0

8

Jan-

09

Enterprise Deposits (%YoY)

Jul'08

Source: CEIC, Morgan Stanley Research

Identify the Inflection Point: Indicators Warrant Close Monitoring

6

8

10

12

14

16

18

20

22

24

26

28

Jan-9

9

Jul-99

Jan-0

0

Jul-00

Jan-0

1

Jul-01

Jan-0

2

Jul-02

Jan-0

3

Jul-03

Jan-0

4

Jul-04

Jan-0

5

Jul-05

Jan-0

6

Jul-06

Jan-0

7

Jul-07

Jan-0

8

Jul-08

Jan-0

9

Jul-09

0.0

0.5

1.0

1.5

2.0

2.5

3.0

%YoY

%MoM (rhs)

Loan growth

-40

-30

-20

-10

0

10

20

30

40

50

60

Jan-04

Jul-04

Jan-05

Jul-05

Jan-06

Jul-06

Jan-07

Jul-07

Jan-08

Jul-08

Jan-09

Started

Sold (6-month lead)

%Y

oY

Floor space

0

10

20

30

40

50

60

70

80

May-

03

Sep-0

3

Jan-0

4

May-

04

Sep-0

4

Jan-0

5

May-

05

Sep-0

5

Jan-0

6

May-

06

Sep-0

6

Jan-0

7

May-

07

Sep-0

7

Jan-0

8

May-

08

Sep-0

8

Jan-0

9

May-

09

20

40

60

80

100

120

140

160

180

200ST FX Loans (US$bn)

Exports (US$bn)

Imports (US$bn)

Sept.'08


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m o r g a n s t a n l e y r e s e a r c h january 2009 morgan stanley asia limited qing wang chief...

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