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Credit conditions to be 'bumpy' as global economy slows, US-China trade war rages, S&P says

Chad Bray chadwick.bray@scmp.com

Credit conditions in the Asia-Pacific region are likely to remain bumpy for the rest of the year as more dovish monetary policy may not be enough to soften the blow of a slowing Chinese economy, the US-China trade war and weaker corporate revenue, according to S&P Global Ratings.

The tensions between the world's two biggest economies represent are the "greatest risk" over the next six to nine months as they are dampening investor and corporate sentiment, the rating company said in a report on Tuesday.

It expects a broad-based economic slowdown in Asia-Pacific to extend through the end of next year as business confidence erodes and future investment remains weak.

"Financing headwinds are back. While official interest rates are expected to go lower or remain the same for most economies in the region, we see stress on interest spreads and also, to a certain extent, liquidity for the more leveraged corporate," S&P said. "Our ratings outlook bias is deeper into net-negative territory for corporates. The transmission of corporate stress to financial institutions will take time, but inevitably will occur."

US President Donald Trump and China's President Xi Jinping meet business leaders at the Great Hall of the People in Beijing, on November 9, 2017. Photo: Reuters alt=US President Donald Trump and China's President Xi Jinping meet business leaders at the Great Hall of the People in Beijing, on November 9, 2017. Photo: Reuters

The trade dispute between the US and China has waged for more than a year, with President Donald Trump placing tariffs on hundreds of billions of dollars of Chinese goods as he tries to force Beijing change decades of industrial and trade policy. The two countries agreed to what Trump described as a "substantial phase-one deal" earlier this month, though uncertainty over rising protectionism is weighing on trade and business investment globally.

Last week, The International Monetary Fund cut its outlook for global growth in 2019 to 3 per cent, citing "rising trade barriers and increasing geopolitical tensions". It would be the slowest pace since the global financial crisis a decade ago.

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That increases the urgency on the Chinese authorities to spur the economy, according to Bank of America Merrill Lynch.

"Despite rising expectation of a 'phase-one' deal between the US and China in November, we think growth headwinds will likely persist in the near term, given suppressed trade growth and weak domestic capex demand," BofA economists Xiaojia Zhi and Helen Qiao said in a research note. "We expect policy easing to intensify, but the timing will have to wait until after the Politburo meeting at the end of October. If policymakers continue to delay, we see higher risks of policy falling behind the curve, posing larger downward pressures on growth."

Aidan Yao, senior emerging Asia economist at AXA Investment Managers, said there has been some positive progress in trade negotiations, but there are "still a lot of uncertainties and risks remaining in the pipeline".

"We are clearly not out of the woods just yet," Yao said. The agreement is a step in the right direction, but far from the finish line in resolving the trade war, he said.

As economies have slowed in China, the US and elsewhere, central banks, including the US Federal Reserve, have reversed course and begun to lower interest rates to soften the slowdown. That has put more pressure on financial institutions, which have been dealing with the low-rate environment since the financial crisis.

S&P said the risk of a low interest rate environment could linger for three to five years or longer.

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"In the short term, lower for longer could mean an extension of cheap borrowing costs, perhaps renewed borrowing from the corporate and household sectors, and potentially an extension of high asset prices," Gavin Gunning, a credit analyst at S&P said. "In the longer-term, we retain our view that the main issues that 'lower for longer' is looking to address " including softer economic outlook " remain a future concern for [Asia-Pacific] banks' credit standing."

When rates begin to move higher, the huge overhang of debt at very low rates "will lead to some borrower stress", he said. There also could be a sharp decline in asset prices and some liquidity stress.

"From a banking sector perspective, lower for longer means a period of lower profitability for banks, which is already a significant issue in Japan with wafer-thin interest margins but also increasingly in Western Europe," Gunning said.

The softer economic outlook also could lead to rising non-performing loan ratios for banks in the Asia-Pacific region, even though that would be "from a relatively low base by global standards", Gunning said.

China's size and high savings rate has helped keep financing costs in many countries relatively stable or low as it has been a big supplier of savings globally.

"Were China ever to suffer a financial or economic crisis, the impact wouldn't transmit just through lower imports and global demand," said Kim Eng Tan, an analyst at S&P. "An associated risk is more volatility in global financing costs."

This article originally appeared in the South China Morning Post (SCMP), the most authoritative voice reporting on China and Asia for more than a century. For more SCMP stories, please explore the SCMP app or visit the SCMP's Facebook and Twitter pages. Copyright © 2019 South China Morning Post Publishers Ltd. All rights reserved.

Copyright (c) 2019. South China Morning Post Publishers Ltd. All rights reserved.