Risk to UK from a China downturn could be bigger than thought: BoE research

By Andy Bruce

LONDON (Reuters) – The risk to Britain’s economy from a sharp slowdown in China could be around 50 percent larger than previously estimated, new Bank of England research showed on Friday.

China, the world’s No.2 economy, has started to cool due to a multi-year crackdown on riskier lending that is pushing up borrowing costs for companies and consumers.

While Britain would be affected mainly through trade by a more severe slowdown in China, the BoE report also said the depth of its financial links with China were “unique”, whether directly or via Hong Kong.

British banks’ exposures to mainland China and Hong Kong exceed those to the United States, euro zone, Japan and South Korea combined, despite the fact that Britain’s economy is dwarfed by the sum of these countries, the report showed.

Still, British banks have become much better capitalized since the global financial crisis, something that could soften the harmful effects of any substantial slowdown in China.

The BoE researchers also took into account other ways a Chinese slowdown could affect Britain, such as through commodity markets.

“Considered together … spillovers from China to the United Kingdom are likely to be about 50 percent larger than previously shown,” the authors of the BoE report said in the central bank’s Quarterly Bulletin.

Last month the International Monetary Fund said it expected China’s economy to grow 6.6 percent this year, slowing a little from 2017, but it warned that overly rapid credit growth and trade frictions could pose risks.

Even a modest shock to Chinese growth could shave 0.4 to 0.5 percent off the level of British economic output, the BoE report showed.

Although China directly accounts for only around 4 percent of British exports, a big chunk of this loss would come through indirect trade links, for instance through supply chains, the authors said.

A “hard landing” scenario — in which China’s economy ends up 10 percent smaller than it would have otherwise been — could reduce the level of British economic output by 1.3 to 1.4 percent.

Even these estimates might not prove to be large enough, the BoE authors cautioned. The effect of a Chinese slowdown could be amplified further through financial markets.

And they said it was unclear how the British property market would react, given the dominance of Asian investment in British commercial property.

“The UK’s indirect trade links with China will probably remain the main transmission channel from China to the UK, but China’s continued integration into the global financial system will make the global economy increasingly sensitive to developments in China in the future,” the BoE report concluded.

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