China's Manufacturing Gauges Offer Mixed Messages

Not for the first time, China watchers got conflicting signals this week on the state of the world's second-largest economy: Two gauges of factory activity pointed in opposite directions, clouding whether the manufacturing sector is cycling up or down.

The Caixin China manufacturing purchasing managers index, a private gauge, rose to 51.1 in July from 50.4 in June, hitting its highest level in four months, according to the compilers, Caixin Media Co. and research firm Markit on Tuesday. They attributed the rise to a solid upturn in new export sales.

A day earlier, however, the Chinese government's official PMI dropped in July due to slower production and weaker foreign demand, though the level still signaled expansion.

Why the two gauges diverged this time is debatable. Both Caixin and the National Bureau of Statistics, which released the official data, declined to comment. Economists say that the official PMI skews more heavily toward big state companies while Caixin's better captures the private sector. They are split on which one more accurately reflects the underlying conditions of the economy.

Some economists say they track official PMI more closely and think the data is more reliable, given its larger sample base. The statistics bureau surveys 3,000 manufacturers nationwide, while Caixin polls 400 companies.

"The divergence of the two gauges happened from time to time, because the official PMI includes more big state-owned enterprises while the Caixin PMI tracks more closely on export-driven small firms," said Zhao Yang, an economist with Nomura.

Julian Evans-Pritchard with Capital Economics, among others, suggests giving more weight to the Caixin PMI "since the index has typically done a better job capturing cyclical trends in economic activity."

Getting a bead on the health of the Chinese economy matters for the global economy and for manufacturers, investors and other businesses, and while the purchasing managers indexes are just one of many indicators, they offer among the earliest glimpses of economic conditions every month.

The rising Caixin PMI cheered markets, helping them extend early gains on Tuesday. The Shanghai Composite Index finished morning trading up 0.4%, putting it just below 2017's closing high. In Hong Kong, the Hang Seng Index hit two-year highs, rising 0.8% and moving closer to 2015's peak. An index of large Chinese companies' shares jumped 1.8%.

The decline in the official PMI, to 51.4 in July from 51.7 in June, may reflect that big state firms are still expanding but at a more modest rate, while the rise in the Caixin index likely indicates that small businesses are benefiting from a recovery of global demand, economists said.

In the past five years, the two gauges pointed in opposite directions 43% of the time. The frequency of those divergences increased in the past year, during which the two diverged two-thirds of the time, according to calculations by The Wall Street Journal.

Nomura's Mr. Zhao said there is no need to over-interpret the differences. A gradual slowdown in growth lies ahead for the Chinese economy, he said, as government measures to rein in a hot property market and rising corporate debt are starting to weigh on business sentiment and economic activity.

China registered a strong start to the year. The 6.9% growth rate in the first six months is well above the annual 6.5% target and provides a comfortable margin for Beijing to continue efforts to tackle rising levels of debt and other financial risk.

Economists expect those efforts, which include higher financing costs and restrictions on home purchases, to filter through to the broader economy in the second half of the year. Mr. Zhao projects "a significant slowdown" next year, with growth slipping to 6.2%.

Grace Zhu

(END) Dow Jones Newswires

August 01, 2017 02:53 ET (06:53 GMT)