China's factory outlook worsens

Employees working on bulldozer engines at a factory in Zhangjiakou in Hebei province. While the factory indicator has been in a gradual multi-year decline due to automation and younger people opting out of the sector, a sharp contraction in the peak
Employees working on bulldozer engines at a factory in Zhangjiakou in Hebei province. While the factory indicator has been in a gradual multi-year decline due to automation and younger people opting out of the sector, a sharp contraction in the peak production season underscores that the trade war is hurting on the ground. PHOTO: AGENCE FRANCE-PRESSE

Weakening yuan adds to Beijing's woes as trade war deteriorates

BEIJING • China's manufacturing sector slowed more than expected and further signs of stress in the labour market appeared, adding to a weakening currency and financial nervousness on the list of problems faced by President Xi Jinping as the trade war with the US worsens.

The manufacturing purchasing managers' index (PMI) for last month slid into contraction at 49.4 and its employment sub-index tumbled to the lowest level since the aftermath of the global financial crisis. The yuan has fallen 2.5 per cent last month, and stocks had a tough month as turbulence from United States President Donald Trump's tariff hike hit home. The first government seizure of a Chinese bank in 20 years has also spooked markets.

Worsening data and anxious markets leave Mr Xi walking on a tightrope as he tries to stand firm against Mr Trump while supporting growth without a debt blowout. The US leader's widening of his tariff campaign to Mexico bodes ill for China's chances of rapprochement with the US - though a potential meeting between the two presidents at a Group of 20 summit in Japan later this month could yet produce a turnaround.

"One really worries what the figures are going to look like into the second half as the global backdrop and the local economy both turn down together," said Mr Michael Every, head of Asia financial markets research at Rabobank in Hong Kong.

The employment sub-index of the official non-manufacturing index also sank to the worst in more than three years. While the factory indicator has been in a gradual multi-year decline due to automation and younger people opting out of the sector, a sharp contraction in the peak production season underscores that the trade war is hurting on the ground.

Jobs are a red line issue for China's leadership, which last month established a leading group headed by a vice-premier to support employment and vowed to "defend the bottom line of avoiding massive lay-offs." Premier Li Keqiang also pledged to meet the annual employment target and top economic officials unusually requested that provinces keep migrant workers in their work locations and avoid having them return to hometowns "in large tides."

A sub-index gauging new export orders in the manufacturing index also fell further into contraction. This suggests that exporters felt the squeeze of renewed tariff threats from the US and waning global demand, implying that the apparent recovery in the first half has been short-lived amid a sudden escalation of the trade war.

Policymakers may take comfort from the relatively robust outlook for services and construction, with the non-manufacturing remaining at 54.3.

"The momentum of the economy is continuing with the softer trend we saw in April," Grace Ng, a China economist at JPMorgan Chase in Hong Kong, said.

Risks are also flaring in the nation's US$42 trillion (S$58 trillion) financial industry after the first government seizure of a Chinese bank in 20 years spooked markets. The takeover of Baoshang Bank last week came as the country's smaller lenders grapple with record corporate defaults and a regulatory crackdown on shadow-banking activities. The central bank moved to curb the risk of a interbank funding squeeze with the largest net injection of cash since January.

Policymakers may have to take bolder easing steps, although the weakening yuan is a constraint.

"Mr Trump's plan to put a 5 per cent across-the-board tariff on Mexico suggests he's ready to go all-in on trade - a worrying sign for the US-China trade war," said Bloomberg economists Chang Shu and David Qu in Hong Kong.

Trade tensions are not only rattling Chinese factories. The Nikkei Japan PMI signalled a third contraction in factory activity this year, according to a preliminary reading last week. The euro zone is also headed for "lacklustre" growth with its flash manufacturing PMI also trailing economist estimates.

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A version of this article appeared in the print edition of The Straits Times on June 01, 2019, with the headline 'China's factory outlook worsens'. Print Edition | Subscribe