China Factory Activity Shrinks for 4th Month: HSBC

China's manufacturing sector contracted in February for the fourth straight month as new export orders dropped sharply in the face of the euro area debt crisis, the HSBC flash purchasing managers index showed on Wednesday.

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The PMI, the earliest indicator of China's industrial activity, rose to a four-month-high at 49.7 in February from 48.8 in January. The PMI has been below 50, which demarcates expansion from contraction, for most of the last eight months.

The survey shows the sector remained sluggish in February with overall orders falling, underlining Beijing's decision on Saturday to cut the amount of cash banks must hold as reserves — the required reserve ratio (RRR) — for the second time in three months.

HSBC said its flash PMI data, based on 85-90 percent of responses to a monthly survey, suggested further policy easing was needed. The final PMI will be released on March 1.

"Growth remains on track for a slowdown, despite the marginal improvement in the headline flash PMI led by quickened production after the Chinese New Year," said Hongbin Qu, HSBC's chief economist for China.

"With a meaningful rebound of domestic demand not in sight, external weakness is starting to bite, adding more downside risks to growth. The PBoC, after delivering this year's first RRR cut, should step up policy easing as inflation pressures continue to ease."

The new export orders sub-index dropped to 47.4 in February from 50.4 in January as the European debt crisis cast a shadow over Chinese exports.

An output sub-index rose to 50.1 in February from 47.6 in January. New orders were flat at 49.1.

China cut its reserve requirement ratio by 50 basis points to 20.5 percent on Saturday, releasing about 400 billion yuan ($63 billion) that could be used for bank lending. It marked the second 50-bp cut in the RRR in three months.

China's economic growth is widely seen slowing down in January to March for its fifth consecutive quarter. Economists expect full-year growth to slip below 9 percent for the first time in a decade.

Trade data for January showed imports and exports falling at their fastest rate since 2009, which analysts said at the time showed an economy weaker than previously thought even accounting for distortions caused by the Lunar New Year holidays, which fell in January.

After the data, Premier Wen Jiabao had flagged fresh measures to support the economy, saying Beijing should "pay attention to the economic situation" and "act quickly".

Economists Reuters spoke to since the latest cut in bank reserves said they were sticking with their forecasts for further easing this year. A Reuters poll conducted last month showed economists expect a total of 200 basis points of RRR cuts throughout 2012 to 19 percent.

The central bank may also use open market operations to ease liquidity strains and authorities may relax curbs on the loan-to-deposit ratio requirement so banks can step up lending, analysts say.

China's trade ministry is working on detailed policies, including more tax rebates to try to boost the country's exporters.

Few expect the central bank to cut interest rates though while inflation remains stubbornly above the one-year deposit rate of 3.5 percent for fear it could spark a rush of cash out of deposits and into more speculative investments.