Industry Market Trends

Inside China's Alarming Manufacturing Slowdown

Sep 05, 2012

In August, China's factory activity shrank at its fastest pace in nine months, signaling that a slowdown in economic growth continues in the world's second-largest economy.

China has been hit particularly hard by the European recession, where the sovereign debt crisis has prompted steep austerity measures in many countries. Weak conditions have hampered demand in the Eurozone, the largest market for Chinese exports, while the slowing United States economy is further cutting demand for Chinese exports.

The world's second-largest economy, behind the U.S., doesn't seem to have hit the bottom of the economic trough yet, according to a key barometer of Chinese manufacturing activity.

The HSBC Flash China Manufacturing Purchasing Managers' Index (PMI) fell to a nine-month low in August. The initial PMI fell from 49.3 in July - the lowest level since late last year - to 47.8 this month, signaling extended difficulty for manufacturers.

Any reading below 50 indicates that factory activity is contracting rather than growing.

"The unexpectedly big drop more than reversed the gain seen in July," Yao Wei, a China expert at Société Générale, said in a research note. "A drop of this magnitude and a level significantly below 50 unambiguously spells trouble."

Based on a survey of more than 420 companies, the August Flash PMI marks the 10th consecutive month the index has been in contraction, according to HSBC Holdings PLC and Markit Economics data.

"Falling orders dragged down the August flash PMI to a nine-month low, suggesting Chinese producers are still struggling with strong global headwinds," Hongbin Qu, chief Chinese economist at HSBC, said in a statement.

Analysts have described the August data as "disappointing," "alarming" and "just awful," the New York Times reports.

"Details of the flash report showed sharp deterioration in all the sub-indices except for employment and delivery times, but [the] employment index didn't improve either from the lowest level (47.7) since April 2009," according to Wei. "Production index fell below the boom-bust line again to 47.9, and total new orders index was down to 46.6 from 48.7 in the previous month."

Worse still, export orders dropped to "a level only seen during the Lehman crisis," Wei said. "The high level of excess capacity is a structural issue for many upstream sectors in China and will put downward pressure on producer prices and corporate profit margins for years to come."

"The sub-index for new export orders fell to 44.7, down from 46.7 in July and the lowest reading since March 2009, when exports were being hit by the global financial crisis, indicating that economic woes in the major foreign markets of Europe and the U.S. continue to weigh on China's exporters," the Wall Street Journal explains.

What is more worrying, experts say, is that the waning momentum in China is eroding the country's ability to drive growth elsewhere in Asia - and the rest of the world.

"A weaker Chinese economy will weigh on Asia," Nomura China economist Zhang Zhiwei told the Journal. "China is in a decisive position in Asia, and its slowdown will have a very big negative impact on export-oriented countries and regions such as South Korea and Taiwan."

China is the U.S.'s third-largest customer for exports, after Canada and Mexico, and many American companies have been relying on strong sales there to boost their bottom lines.

"American and European companies that have been seeing really poor performance at home were coming to rely on China to be the growth engine for their company," David Hartman, practice director at Blue Canyon Partners in Beijing, recently told CNNMoney. "They're worried now, what happens if that growth engine slows down?"

The preliminary PMI reading followed news in July that China's economy grew 7.6 percent in the second quarter, down from the first quarter's 8.1 percent growth and marking the slowest pace since the first quarter of 2009.

Chinese manufacturing's persistent weakness, particularly its poor performance in the HSBC PMI last month, reinforced calls from analysts and investors for additional measures from Beijing to support economic growth.

"To achieve the stated policy goal of stabilizing growth and the jobs market, Beijing must step up policy easing to lift infrastructure investment in the coming months," Qu said.