China's factory activity shrinks as US tarrifs, slowdown hit orders

MACROECONOMICS - BEIJING. China's factory activity shrank more than expected in June, an official manufacturing survey showed, highlighting the need for more economic stimulus as U.S. tariffs and weaker domestic demand ramped up pressure on new orders for goods.

The Purchasing Managers' Index (PMI) stood at 49.4 in June, China's National Bureau of Statistics said on Sunday, unchanged from the previous month and below the 50-point mark that separates growth from contraction on a monthly basis. Analysts polled by Reuters predicted a reading of 49.5.

The weak manufacturing readings are likely to cast a shadow over the apparent progress U.S. and Chinese leaders made at the G20 summit in Japan over the weekend in restarting their troubled talks over tariffs amid a costly trade war.

They will also spark concerns about stalling growth in China and the risk of a global recession, despite slightly better-than-expected export and industrial profits data in May.

Many economists still expect the economy to face strong headwinds in coming months as domestic demand falters and external risks rise.

"Although the outcome of the G20 summit (in Osaka) might boost confidence for some entities, organic growth in the economy is still insufficient, and counter-cyclical stimulus policies need to be maintained," researchers at Huatai Securities wrote in a research note on Sunday.

"The PMI index continued to fall across the board this month, and only the raw material inventory sub-index was up due to weak demand," the research note read.

In June, China's factory output growth slowed, with the subindex falling to 51.3 from 51.7 in May while the contraction in total new orders accelerated to 49.6 from 49.8.

Export orders extended their decline with the sub-index falling to 46.3 from May's 46.5, suggesting a further weakening in global demand.

Import orders also worsened, reflecting softening demand at home despite a flurry of growth-supporting measures rolled out earlier this year.

Southwest Securities said weak new export orders reflected a fading of the front-loading effect, which had temporarily boosted exports as Chinese companies rushed to place orders before more tariffs took effect.

Presidents Donald Trump and Xi Jinping held ice-breaking talks at the G20 summit on Saturday. However, Chinese state media warned on Sunday Beijing and Washington will likely face a long road before the two countries could reach a deal.

Analysts at Nomura expect any gains achieved on a temporary trade deal between China and the United States would prove fleeting with a renewed escalation likely further down the road.

Trump has already imposed tariffs on $250 billion of Chinese goods and is threatening to extend those to another $300 billion, which would effectively cover all of China's exports to the United States. China has retaliated with tariffs on U.S. imports.

To deal with the economic challenges, policymakers have released a range of measures and are expected to launch more. Premier Li Keqiang last week pledged to cut real interest rates on financing for small and micro firms.

Goldman Sachs said the lack of any substantive progress in Sino-U.S. trade talks at the G20 over the weekend suggested stimulus, including cuts to banks' reserve requirements, was likely to be needed.

"We expect more policy easing (two more reserve requirement ratio cuts in 2H this year, more fiscal measures to support infrastructure investment) to come in the next few months," Goldman Sachs said in a note.

Manufacturers continued to cut jobs in June, with the employment sub-index falling to 46.9, compared with 47.0 in May, when it hit the lowest level seen since March 2009.

An official business survey showed activity in China's services sector held firm in June despite growing pressure on the broader economy from U.S. trade measures, with the official reading at 54.2 in June from 54.3 in May.

Beijing has been counting on a strong services sector to pick up the slack as it tries to shift the economy away from a dependence on heavy industry and manufacturing exports.