China cheerleading gives way to caution on economy

BEIJING (Reuters) - Doubts about the vigor of China's recovery deepened on Thursday as two senior officials and a pair of international banks highlighted the risks still facing the world's third-largest economy.

Vice Premier Li Keqiang said that while the government's 4 trillion yuan ($585 billion) stimulus plan had yielded initial results, it was too early to hail an economic recovery.

"The international financial crisis is still spreading, and its impact on the real economy is deepening," the official Xinhua news agency quoted Li as saying.

"There are still huge uncertainties, and the process of economic recovery may be tortuous and complicated," Li added.

Li's cautious comments are striking because Premier Wen Jiabao has repeatedly said that confidence is more important for China as it strives to pull out of its downturn.

Annual gross domestic product growth in the first quarter slowed to 6.1 percent from 6.8 percent in the final three months of 2008.

A report by the industry ministry and the Chinese Academy of Social Sciences said industrial output growth, which has been in single digits since October, may return to double digits in the second half of 2009.

But the report said the rebound was not on a solid footing.

Zhu Hongren, an official with the ministry, told Xinhua that weak economic activity, especially reduced external demand, may exacerbate industrial overcapacity. "Caution is needed before we can say that the Chinese economy has bottomed out," Zhu said.

James McCormack, head of Asia Pacific sovereigns at Fitch Ratings agency, said it was reasonable to say the economy had in fact bottomed out insofar as the pace of quarter-on-quarter growth was no longer decelerating.

McCormack told a telephone conference with analysts and reporters that Fitch would probably revise up its current 5.5 percent forecast for China's 2009 GDP growth closer to the government's 8 percent target.

But he added: "The growth numbers in China may continue to be quite weak."

PMI SET TO SOFTEN?

Credit Suisse said economic activity appeared to have softened in the second half of April and that the trend was more pronounced in May, with weakness in the materials sector and power consumption spreading to retail sales.

"We argue that the recovery in China is still ongoing, but that the pace may not be as strong as many have hoped recently," Dong Tao, Asia economist at Credit Suisse, said in a report.

He forecast that the Purchasing Managers' Index might slip below the watershed of 50 over the next few months, suggesting that the Chinese manufacturing sector was contracting.

A reading in the PMI above 50 points to expansion; a figure below 50 indicates business is contracting.

Economists at Merrill Lynch said the PMI, closely watched by markets as a leading economic indicator, would soften but remain above the crucial 50 mark.

"Although manufacturing investment growth is not as strong as that of infrastructure, it has actually picked up so far this year, and we believe the momentum could be maintained for another several months," Merrill Lynch economists Ting Lu and T.J. Bond said in a report.

"We need to factor in seasonality and focus on the big picture: the V-shape recovery of PMI," they said, noting signs of more property transactions and faster investment growth.

They forecast that the PMI would drop to 50.2 in May, down from 53.5 in April but still well above a record low of 38.8 in November.

(Reporting by Simon Rabinovitch, Langi Chiang, Zhou Xin and Alan Wheatley, Editing by Jacqueline Wong)