Is manufacturing PMI no longer suitable to predict China's GDP growth?

As China's economic structure has changed since 2012, the manufacturing purchasing managers' index (PMI) as a predictor of GDP growth has failed, ANZ said in a report. In contrast, in the past decade, the correlation between the comprehensive PMI index and GDP growth has been very high, so it is more suitable to be a leading indicator of GDP growth.

The comprehensive PMI output index is a comprehensive output index in the PMI index system to monitor the overall economic development of the current country or region and the cyclical changes, covering both manufacturing and non manufacturing sectors. For a long time, PMI index of manufacturing industry has been a leading index reflecting China's macro-economic operation situation, and its growth forecast of the secondary industry is particularly accurate. ANZ pointed out that before 2012, industry had played an important role in promoting China's economic growth, and it was also the largest component of the overall GDP, accounting for 48% at one time. The growth rate of industrial production is highly related to the GDP of the secondary industry, and manufacturing PMI is a good tracking indicator of industrial production.

However, after 2012, in the context of overcapacity and continued weakness in the manufacturing industry, China started the supply side structural reform. That is to say, since this year, China's industrial structure has undergone significant changes. Previously, the second industry was the largest component of GDP, accounting for about 45% of the total GDP; in 2013, the third industry surpassed the second industry for the first time to become the largest component of China's GDP, and by the first quarter of 2019, the proportion of the third industry in GDP had increased to 55%. However, manufacturing PMI is a proliferation index compiled based on Nonparametric Statistics (such as asking respondents to answer "up, unchanged, down"), so it cannot capture the price fluctuations that China has never experienced since the Asian financial crisis.

In addition, the transformation in the past few years has made it more and more difficult for small-scale and low value-added manufacturing enterprises, which cannot be counted as "enterprises above scale" or included in industrial production data. However, the research sample of manufacturing PMI includes 3000 manufacturing enterprises, covering all scales and across all production fields. Therefore, the trend of manufacturing PMI and GDP is becoming more and more differentiated. It is estimated by ANZ that based on the data of the past decade, the comprehensive PMI output index has a high correlation with GDP. Among them, the correlation with the annual growth rate of GDP is as high as 0.8, and the correlation with the quarterly growth rate of GDP is 0.72.

The correlation between the index and nominal GDP growth is also very strong, as high as 0.84. Based on the correlation between the comprehensive PMI index and GDP, the bank estimates that the GDP growth rate in the third quarter of 2019 will be 6.1%, down one percentage point from the previous quarter. According to the data released by the National Bureau of statistics on October 18, China's GDP in the third quarter of 2019 increased by 6.0% year-on-year, 0.2 percentage points lower than that in the second quarter. In the first three quarters of this year, China's GDP grew 6.2% year on year. In January 2018, the National Bureau of statistics released the comprehensive PMI output index for the first time on the basis of the manufacturing PMI and non manufacturing business activity index. The compilation method adopts the internationally accepted method, that is, the weighted sum of manufacturing production index and non manufacturing business activity index, and the weight is calculated by the proportion of manufacturing industry and non manufacturing industry in GDP. Like other indexes in the PMI index system, 50% is taken as the dividing point of economic strength. When it is higher than 50%, it indicates the overall expansion of the economy; when it is lower than 50%, it indicates the overall contraction of the economy. The latest comprehensive PMI output index released by the Bureau of statistics at the end of last month was 53.1%, slightly higher than the previous value by 0.1 percentage points, indicating that the overall production and operation of enterprises were stable.