China’s 4Q15 GDP grew 6.8% YoY

In line with the government's target of about 7%, China's 4Q15 GDP grew 6.8% (YoY), and full-year GDP grew 6.9%. GDP slowed from 1.8% in 3Q to 1.6% in 4Q. While 4Q's number is the slowest in more than two decades, headline GDP numbers - or any high frequency economic data for that matter should not be over-interpreted. The downward growth trajectory is almost for certain, and a few tenths of a percentage point's difference does not alter the bigger picture. In the current context, it is more worthwhile to separate the symptoms from the causes of current economic phenomena. 

Slowing GDP growth figure is merely a symptom of economic ills. From a component breakdown perspective, manufacturing is dragging down growth. Service sector remains a bright spot, having advanced 8.3% and contributed 50.5% to annual GDP growth in 2015. The services sector cannot substitute the manufacturing sector. In fact, they are co-dependent. The ongoing optimism in the service sector alone cannot reverse the current course of downturn. 

Root cause of China's current problems is a fragile banking sector even though nonperforming loans (NPLs) on the books are just 1-2%. The risks from off-balance sheet items, overdue loans that are not officially counted as NPLs and endless rollovers of "would be" bad debts are not easily quantifiable. Banks that are more alarmed about such latent credit risks are reluctant to extend credit in spite of monetary loosening. Disinflationary forces are ramping up real interest rates. The CPI only advanced 1.4% last year. 

Supply-side economics has now become the central philosophy behind structural reforms this year. It will not be a surprise the state may allow inefficient companies to go bankrupt or to catalyze mergers/restructurings. This means more NPLs will eventually appear on the books. The government would also have to guide banks to change their lending practices. Not until banks could effectively allocate credit according to risks, problems in the sector will be a lingering hindrance to economic growth. 

The Chinese economy is stabilizing on the back resilient consumer spending, a thriving services sector, a steady rebound of the property market, and a still tight labor market. But the pressing issue here isn't so much about short term growth momentum. It is about confidence in macroeconomic management. Effectiveness of monetary/fiscal policy is constrained by structural and political factors. The market does not accept the adjustment of the Chinese currency. How can the Chinese government effectively implement structural reforms under the prevailing context? This is the source of pessimism now.