Recent hints showcase little strengthening in Chinese Yuan and subsiding deflationary pressures

The yuan strengthened, deflationary pressures subsided, and credit demand in China increased, adding to recent hints that the economy and financial markets may be stabilising following a severe downturn.

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Strong credit figures released on Monday revealed that business loans also increased, suggesting that recent measures to support the real estate market may be starting to increase household demand for mortgages. After the central bank stepped up its defence of the currency, the yuan increased.

The weekend's positive developments are added to by consumer prices rebounding to increases after declining in July, albeit by the narrowest of margins. Additionally, factory-gate deflation shrank.

Policy measures  helped in reviving the China's Economy

According to Zhang Zhiwei, chief economist of Pinpoint Asset Management Ltd., the policy measures assisted in stabilising the economy. How long the economic momentum can last is the crucial question.

The protracted real estate crisis and low levels of confidence are impeding the recovery of the second-largest economy in the world, putting the government's 5 percent annual growth objective at risk. The August results indicate that the recession may not have been as bad as it seemed in July's gloomy figures, which showed consumer prices dipping into deflation and monthly loans falling to a 14-year low.

On Monday, the benchmark CSI 300 Index gained 0.7 percent, ending a run of four straight down days. The People's Bank of China offered firm instructions and reaffirmed its confidence in maintaining the stability of the yuan, which helped the yuan rebound after plunging to its lowest level versus the dollar since 2007 last week.

The government's supportive initiatives, including as reductions in mortgage rates, policy loan rates, and down payment requirements for house purchases, are probably contributing to the recovery in some small way. The policy changes that have been announced thus far are estimated to have had an overall impact of around 60 basis points, or 0.6 percent, of GDP by economists at Goldman Sachs Group Inc.

The issue at hand is whether China's real estate market can unmistakably turn the corner and boost economic confidence in general.

Real estate in China

In a research note published on Sunday, Goldman analysts stated that recent regulations might lead to a temporary uptick in real estate transactions but are insufficient to stabilise the real estate market. If home sales continue to decline and growth slows much more, they anticipate additional easing, maybe in the form of interest rate reductions or steps to help the real estate market.

The stronger-than-expected credit performance in August implies that China's monetary and fiscal stimulus measures may be beginning to take hold. Despite indications that trade and purchasing managers surveys have bottomed out, decreases in long-term borrowing by businesses and consumers imply that the private sector has not yet recovered, according to economist Eric Zhu.

Even though new household mid- and long-term loans, a proxy for mortgages, increased following a decline in July, they are still significantly below the levels seen in August 2022 and before to the pandemic.

According to Ming Ming, chief economist of Citic Securities Co., the issue of special local government bonds was largely responsible for the improvement in aggregate financing.

In August, local governments increased borrowing to increase spending on infrastructure projects. While this may promote economic growth, it also has the ability to put strain on the financial system and lead to additional monetary policy easing.

There are also indications that services growth, which earlier this year was a significant contributor to the economic recovery, is slowing down. This shows that in order to increase household expenditure, greater policy support may be required.

Additionally, deflationary pressures still exist: The consumer price index is still significantly below the official 3% annual target set by the government.

Market experts were similarly circumspect. According to Alex Loo, macro strategist at TD Securities, while the PBOC's comments on Monday to defend the yuan signalled it's "unlikely to stay on the sidelines," more may be required to maintain sentiment on the ascent.

It is unlikely to signal a turnaround in the yuan, and the recovery could be brief without additional significant budgetary support from the authorities, he said.

Since late July, Beijing in China has taken a number of steps to regain market confidence, but these efforts have so far failed to trigger a long-lasting recovery in the stock market. Important local indexes had a devastating selloff in August, placing them among the poorest performers globally.

The CSI 300 is still around 10% behind its January high for this year. According to a Morgan Stanley quant research from last week, global funds are currently holding the fewest Chinese stock positions since October, or back to the level from before the reopening boom took off in late 2022.

They are still at levels that are regarded as distressed, but having increased from a low for 2023 at around 65 cents last month on prospects for additional supportive measures for the real estate sector.

Willer Chen, senior analyst at Forsyth Barr Asia Ltd., described Monday's financial market improvements as marginally favourable but not game-changing. "How long this rally will last is yet to be seen."