Official and Caixin factory activity gauges slow again in Feb, underlining need for RRR move

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Feng Li | Getty Images

Twin gauges of Chinese factory activity revealed slowing growth in February, underpinning the case for more monetary stimulus a day after the country's central bank moved to improve liquidity conditions.

Output from large factories contracted for the seventh straight month in February, a government survey revealed on Tuesday. The official manufacturing Purchasing Managers' Index (PMI) came in at 49.0, below Reuters forecasts for 49.3 and January's reading of 49.4.

A number below 50 points indicates a decline in factory activity, while one above suggests expansion.

But Chinese government data has long been taken with a pinch of salt so when it comes to assessing the state of factories, investors tend to gravitate towards a private gauge that tracks smaller and medium sized firms, known as the Caixin manufacturing PMI.

Released 45 minutes following the official report, February's Caixin reading edged down to a five-month low of 48.0, versus 48.4 in January.

"Companies that reported lower output generally cited weak market conditions and reduced intakes of new work. Furthermore, total new business declined for the eighth month in a row, albeit at a modest pace that was similar to January," Caixin said in a statement, adding that the decline in production was the quickest seen since September.

Asian equity markets were mixed following both surveys, while the Australian dollar—widely considered a proxy for China plays—dipped as much as 0.4 percent to $0.7105 U.S. cents.

The weak PMI results were partly due to seasonal effects. Much of the country was closed for the week-long Lunar New Year holidays last month and some analysts believe markets should wait until March to get a more precise picture of Chinese production.

"Anytime during the first quarter, we tend to overlook these figures....It's hard to interpret from one single data point how China's economy is doing," Ken Wong, Asia equity portfolio specialist at Eastspring Investments, told CNBC.

But a look at the breakdown of Caixin's survey still revealed cause for concern, pointed out Pu Yonghao, partner and chief investment officer at Fountainhead Partners, which has around $600 million assets under management.

Sharp falls in new orders and the employment index were especially worrisome, he said, with manufacturers shedding jobs at the fastest pace in seven years.

This is part of a larger employment issue that is becoming apparent as the economy stalls. Beijing said on Monday that 1.8 million coal and steel workers will be laid off from state-owned enterprises as the government addressed over-supply in those areas. The job cuts will now put those workers in competition with other unemployed Chinese for private-sector roles.

"China's economy is going to continue struggling. Aside from boosting real-estate demand in tier-one cities, authorities are going to find it difficult to manage this downward trend," Pu said.

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Both sets of data will likely reinforce the rationale for the central bank's fresh stimulus moves.

Late on Monday, the People's Bank of China (PBOC) cut its reserve ratio requirement for banks by 50 basis points to 17 percent, with analysts expecting the cut to release an additional $100 billion in liquidity. Monday's RRR cut, the fifth in a year, was aimed at driving lending and consumption as Beijing experiences its slowest pace of economic growth in more than 20 years.

Secondary industry, or manufacturing, is no longer the nation's primary economic engine, but it still makes up 40 percent of gross domestic product (GDP). For the first time, services now account for more than half of the economy at 50.5 percent of GDP, according to official 2015 data.

Separate data out on Tuesday showed China's official services PMI fell to 52.7 in February, from 53.5 a month earlier.

Despite the modest deceleration, the Lunar New Year holiday was seen as positive for the services sector as it boosted holiday spending and domestic tourism, explained Iris Pang, Greater China senior economist at investment bank Natixis.

"We keep our call that the services sector will continue to expand in 2016," Pang said.

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