Could the situation in China worsen further?

16:17 30 March 2022

The Chinese PMI index from March will be published tomorrow, while on Friday investors will focus on the Caixin index, which includes smaller private companies. Some time ago, problems related to the coronavirus reappeared and authorities decided to impose new restrictions. Currently, China has an average record of 8,000 new cases a day, of which more than 5,000 comes from the Shanghai region, an important manufacturing center in China. Interestingly, through its zero-tolerance policy, the majority of the population has not contracted COVID so far, while the Chinese vaccine has shown little efficacy against the earlier variants and the current most prominent variant, Omikron. Looking at what has happened in Hong Kong and, for example, in South Korea, one can see that the situation can be significantly worse. On the other hand, if China sticks to its policy, then it could shut down much of the entire economy!

Compared to South Korea or Hong Kong, China looks as if it is coping with the situation. However, this may be a premature conclusion. In Hong Kong, more than 80,000 cases were recorded at its peak, and the rapid development of the pandemic occurred about a month after it began in South Korea, where daily cases are as high as over 400,000! If China were to follow in Korea's footsteps, the strong spike in cases should begin soon. Source: Financial Times

The pandemic had a significant impact on the economic sentiment in Hong Kong, where the PMI index dropped to 42 pts. This could be an indicator of what we should expect in China. One needs to remember that China is much more important to the world economy than Hong Kong.

The South Korean PMI index dropped to around 42 points due to the pandemic. Source: Trading Economics

However, the policies implemented by the South Korean in order to tackle pandemic are different from what we see in China or Hong Kong. The South Korean stock market lost significantly in early February, but declines are limited. A much larger sale-off has already taken place in China or Hong Kong (respectively CHNComp - yellow, HKComp - blue). In South Korea, the PMI hit bottom in October and has been rebounding since then. However, it is worth remembering that in the case of China, a zero tolerance policy may have a much greater impact on economic activity.

Asian indices. Source: xStation5

Apart from the stock market itself, which has already greatly discounted the pandemic in China, the oil and copper markets are the most vulnerable. Should new cases rise sharply in China, then activity is likely to decline, reducing global demand for these two important commodities. Of course, this might not be the case if China quickly tackles the pandemic or abandons its current policies.

At the moment, the yuan remains strong (reverse axis). However, if the situation changes, it could have an impact on both the price of crude oil and copper. Source: xStation5

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