China official PMI misses in January, Caixin PMI shows contraction

A worker stands on piles of industrial products before exporting, at a port of Lianyungang, China
China Daily | Reuters

China's factory activity skidded to a three-year low point in January, adding to further gloom about the state of the world's second-largest economy.

The government-compiled January manufacturing purchasing manager's index (PMI) came in at 49.4, slightly missing Reuters consensus estimates for a 49.6 reading and ticking down from December's 49.7 figure. It was the weakest result since 2012 and marked the sixth straight month in contraction territory.

The mood was worsened by a private survey by Caixin and Markit that showed January manufacturing activity shrinking for the eleventh straight month. Caixin's survey, which tracks smaller firms than the official indicator, came in at 48.4, compared to December's reading of 48.2.

A score below 50 indicates a contraction in the sector, while one above 50 means expansion.

"Chinese manufacturers signaled a modest deterioration in operating conditions at the start of 2016, with both output and employment declining at slightly faster rates than in December. Total new business meanwhile fell at the weakest rate in seven months," Markit said in a statement.

But helping to offset the disappointment was a separate survey also released on Monday, that showed growth in the Chinese services sector had held above the key 50 level. The January official non-manufacturing purchasing manager's index came in at 53.5, versus 54.4 in December.

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As Beijing attempts to reorient its economy away from investment-fueled industrial growth and towards domestic consumption, services such as real estate and health care are becoming important indicators for policymakers; the services sector already accounts for half of Chinese gross domestic product. This new focus has led many strategists to question the value of manufacturing PMIs as lead economic indicators.

"China has been a two-track economy for the past five years. We have services growing very nicely and the lower track of the economy, which is the industrial sector, remains in a difficult position and it's not going to get out of it quickly," explained Erwin Sanft, head of China strategy at Macquarie.

Cutting over-capacity in heavy industries was key to resolving the current slump, Sanft warned.

"There's a realization that for a lot of these industries, there has to be a big downsizing," he said. "Rather than avoiding that issue, plans are now being made as to how workers can be laid off and looked after. We expect there'll be some funding from the central government."

Monday's reports were the latest catalyst pushing global investor sentiment deeper into risk-off mode, following a month of wild market swings amid sharp losses in crude oil prices and protracted worries about a Chinese hard landing. Earlier this month, data showed China's economy grew 6.9 percent for the full year, hitting a 25-year low.

The Australian dollar, considered a proxy for China's economy, edged down 0.4 percent following Monday's data release, while Asian equity markets were mixed. China's benchmark fell nearly 2 percent while Japan's led the region's gains by 2 percent.

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Still, analysts cautioned against reading too much into Monday's figures.

"If you look at it [PMI data] in the past three years, we've always had weak January and February numbers so this is not something new," Ken Wong, Asia equity portfolio specialist at Eastspring Investments, told CNBC.

"What's more important actually is looking at some of these other figures, like the producer price index. It's been down for the past four years...Manufacturing is important but when you know for a fact that the first few months of this year is going to be weak, this isn't something that will surprise people."

For now, Monday's data will likely give the People's Bank of China (PBOC) more ammunition to ease monetary policy further, with ING forecasting two 25 basis point interest rate cuts by mid-year.

Further injections into money markets via reverse repo rates could also be on the table after the PBOC increased the frequency of open market operations to daily from twice a week in order to meet demand ahead of the week-long Lunar New Year holiday.

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