China to cap global rates

A sharp Chinese slowdown in H2 would easily send world GDP growth to the lowest level since the recovery began. The impact of a Chinese slowdown on the rest of the world will be uneven. Countries like Korea and Australia whose exports to China account for a large share of their GDP will be especially vulnerable. Even Japan and  Germany that have significant exposures to China will not be able to escape the implications of a sustained Chinese slowdown.

The Chinese stock market has lost more than 20% of its value over the past three weeks. The correction would have been deeper, if it weren't for the draconian and unprecedented emergency measures introduced by Beijing. Notwithstanding the bounce over the past three trading days, history tells us that further decline is probable following a period of consolidation.

It seems reasonable to think that a further moderation of Chinese growth will have global repercussions. On a Purchasing Power Parity basis, China is now the largest economy in the world, accounting for 16% of global GDP. More importantly, the IMF estimates that China accounted for one third of global GDP growth over the past three years.

What about the US? US export exposure to China is modest, both in absolute and in relative terms. However, long-term Treasury yields have been more correlated with global growth outlook than US growth outlook over the past few years. Moreover, further USD appreciation as other countries would be hurt more by the Chinese slowdown, by tightening US financial conditions, is likely to lead the Fed to go more slowly in the tightening cycle, says Bank of America. 

The first batch of June data suggests that the momentum behind the US economy observed in late spring seems to be slowing. Aggregate payrolls in Q2 grew at the lowest rate insix quarters.