The vast disparity between China’s oil needs to power its economy and its lack of oil reserves has meant that its economy has been a key driver for oil prices since the mid-1990s. This was when China’s then-leader Deng Xiaoping spearheaded a broad reforming agenda across the country’s economy that almost single-handedly created and sustained the commodities ‘supercycle’, as analysed in depth in my new book on the new global oil market order. China’s economic growth-led energy needs resulted in its becoming the world’s largest net importer of total petroleum and other liquid fuels in 2013. And, as late as 2017, China’s high rate of economic growth allowed it to overtake the U.S. as the largest annual gross crude oil importer in the world. As of now, China accounts for around 15-20 percent of total global oil demand. A slew of recent data releases has raised questions in the oil markets over the fragility of China’s economic recovery and the rumours are that new fiscal measures are to be taken to boost its recovery. Whether these will work is the big question for oil prices and is answered below.
Last week saw another set of disappointing economic figures from China. Industrial production increased by 3.5 percent year on year in May, down from a 5.6 percent rise in April and less than market forecasts of 3.6 percent. Highlighting the mixed messaging from China’s recent economic data, this was the 13th straight month of growth in industrial output, but it was at the slowest rate seen in three months. The same pattern was seen in last week’s retail sales figure, which increased by 12.7 percent year on year in May from the previous year. Although it was the fourth straight monthly increase, it was down from an 18.4 percent rise in the previous month and was below market forecasts of 13.6 percent. In the same vein was last week’s release of figures showing that China’s fixed-asset investment grew by 4.0 percent year on year to CNY18.88 trillion (US$2.65 trillion) in the first five months of 2023, less than market forecasts of 4.4 percent and down from a 4.7 percent rise in the previous period. Completing a quad of similar results, China’s urban unemployment rate remained unchanged in May at 5.2 percent.
In broad terms, as also analysed in depth in my new book on the new global oil market order, a key part of the reason for this reduction in economic growth indicators is the lingering effects of China’s long-running battle with COVID-19. Another key part is the shift in its economic growth model in recent years. From 1992 to 1998, China’s annual economic growth rate was basically between 10 to 15 percent; from 1998 to 2004 between 8 to 10 percent; from 2004 to 2010 between 10 to 15 percent again; from 2010 to 2016 between 6 to 10 percent, and from 2016 to 2022 between 5 to 7 percent. For much of the period from 1992 to the middle 2010s, much of China’s massive economic growth was founded on a huge energy-intensive expansion of its manufacturing capabilities. This also involved the mass migration of new workers from the countryside and into the cities, which required a huge energy-intensive infrastructure build-out. Even after some of China’s growth began to switch into the less energy-intensive service sectors, the country’s investment in energy-intensive infrastructure build-out remained very high. This pattern continued for many years, alongside the third phase of China’s economic growth, which was the rise of a middle class that powered domestic consumption-led demand for goods and services. All these phases had the net result of increasing China’s demand for energy exponentially. However, since the decline of COVID-19 that in China occurred only very recently, the country is in a new phase of economic growth entirely. This is reliant on just reopening the economy post-COVID and removing negative policies – property, consumer, and geopolitics – rather than on aggressive stimulus, to drive activity. “For the first time, a cyclical recovery in China will be led by household consumption, mainly services, as there is a great deal of pent-up demand and savings – about four percent of GDP – following three years of intermittent mobility restrictions,” Rory Green, chief China economist for TS Lombard, in London, exclusively told OilPrice.com.
Given this backdrop, rumours have abounded about possible measures that China may take to provide a further boost to its economy. One focus has been on the property market, which remains in a troubling state. Property price inflation remains in negative territory, although prices have continued to post monthly improvements, with 64 out of 70 cities now reporting monthly price gains, TS Lombard’s Green exclusively told OilPrice.com. This was seen again in recent figures showing that new home prices in 70 major cities dropped by 0.2 percent year on year in April, much slower than the 0.8 percent fall in the previous month. This was the 12th straight month of decrease in new home prices, but the softest rate seen since May 2022. There has been market talk of a huge stimulus package aimed in part at redressing this situation – similar to those after the Great Financial Crisis – but this seems highly unlikely. “It will be more of the same: a lowering of mortgage rates and the lifting of some deposit requirements and home-purchase restrictions,” said Green last week. “Markets are likely to be disappointed by stimulus announcements and their impact on the real economy,” he added.
Another focus has been on tackling the structural and cyclical dislocation driving youth unemployment, but worse may still be to come in this context. “Employment and wage growth are of particular concern for Beijing, and they have a higher weighting in policymakers’ reaction function than this year’s ‘about 5 percent’ GDP target,” he underlined. The caution that China appears to be taking on fiscal measures elsewhere, including in the property sector, might not be adhered to in terms of creating the 12 million new jobs targeted. “Concerns about
employment have been clearly evident in official statements in recent weeks, although thus far, the official diagnosis is the combination of ‘skills mismatch’ and unwillingness to undertake primary- or secondary-industry work,” Green told OilPrice.com last week. “The Communist Youth League has said that students should ‘take off their suits, roll up their sleeves and go to the farmland’, while President Xi has commented that new graduates will have to ‘eat bitterness’, an adage connoting the stoic acceptance of hardship,” he added. “We agree to some extent with the skills mismatch theory but think the bigger issue is economy-wide confidence and a lack of aggregate demand,” he underlined.
In recent weeks, both the State Council and leading Party organs have started to address the unemployment issue with the launch of several small-scale policy efforts particularly targeted at reducing youth joblessness. This said, up to now, there had been no signs of urgency to alter the headline stimulus stance. “It is only now that signals of greater concern among policymakers are starting to emerge, notably last week with deposit rate cuts at China’s largest banks,” highlighted Green. “And with the coming graduation of approximately 12 million students over the next few weeks and continued softness in non-services indicators, we think Beijing will shift to a more dovish position after the July Politburo meeting,” he added. Specifically, he said, a further acceleration of local government-bond issuance and infrastructure spending can be expected in this regard, as well as increases in consumption vouchers and a small reduction in various employers’ social security contributions. “On the monetary side, a 10-basis points cut to the loan prime rate and a 25-basis points reduction to the required reserve ration are likely in Q3/23,” he underlined.
This said, all these measures fall within the operational parameters of China’s new economic phase, as outlined above. For oil prices, it is apposite to note that transportation, as a prime example, accounts for just 54 percent of China’s oil consumption, compared to 72 percent in the U.S. and 68 percent in the European Union. In 2022, net oil and refined petroleum imports were eight percent lower by volume than the pre-COVID-19 peak, with infrastructure and export-oriented manufacturing partly offsetting lower mobility and less property construction. “Demand drivers should switch this year, with travel rising and property less negative, while infrastructure and manufacturing slow,” said Green. “The certain outcome is an increase in oil demand – we estimate a five to eight percent increase in net import volumes – but this is unlikely to cause oil prices to surge,” he highlighted. “This is especially as China is buying at a discount from Russia,” he concluded.