China Manufacturing Shrinks for First Time on Record

By Li Yanping and Nipa Piboontanasawat

Aug. 1 (Bloomberg) -- Manufacturing in China contracted for the first time since a survey began in 2005 as export demand faltered and factories closed to clear the air before the Olympic Games.

The Purchasing Managers' Index fell to a seasonally adjusted 48.4 in July from 52 in June, the China Federation of Logistics and Purchasing said today in an e-mailed statement.

The expansion of the world's fourth-biggest economy slowed for the fourth straight quarter in the three months through June on weaker U.S. demand. China raised tax rebates for shipments of textiles and garments today and the commerce ministry is pressing for slower yuan gains to protect exporters after the currency's 6.8 percent advance against the dollar this year.

``Companies are less willing to invest as export growth slumps, credit gets tighter and the economic outlook worsens,'' said Sun Mingchun, an economist at Lehman Brothers Holdings Inc. in Hong Kong. ``Factory closures ahead of the Olympic Games may also have played a role.''

The yuan fell 0.1 percent to 6.8409 against the dollar as of 11:13 a.m. in Shanghai.

The government has closed construction sites and shuttered factories in and around Beijing to clear smog before the games start next week. Shougang Corp., a Beijing-based steelmaker, will keep only one of four blast furnaces open during the games.

Not Enough Electricity

China also faces power shortages. The government has asked coal producers to increase deliveries to power stations to help ease a sixth year of electricity shortages and ensure supplies for the games, according to a July 30 report by the state-run Xinhua News Agency.

Six of 11 sub-indexes in the PMI fell to record lows, including output, new orders and export orders.

``The size of the slowdown is unexpected,'' said Xing Ziqiang, a Beijing-based economist at China International Capital Corp., the nation's biggest investment bank. ``The government may use a more active fiscal policy, slow gains by the yuan, and encourage lending to small companies.''

The Communist Party's Politburo said July 25 that maintaining growth and fighting inflation are the two biggest priorities for the rest of the year. Inflation this year is the fastest since 1996. Consumer prices rose 7.1 percent in June.

China is raising tax rebates on exports of textiles and garments to 13 percent from 11 percent today, according to the State Administration of Taxation. The Ministry of Commerce had urged China's cabinet to rein in currency gains and raise some rebates, a ministry official said July 14, speaking on condition of anonymity.

Yuan's Advance

The yuan's advance against the dollar in 2008 has been at more than double the pace of a year earlier.

The economy expanded 10.1 percent in the second quarter as the trade surplus narrowed 12 percent from a year earlier to $58.14 billion.

Today's survey ``may indicate the economy will continue to weaken,'' Zhang Liqun, a senior research fellow at the State Council's Development Research Center, said in the statement. Companies ``are facing increasing difficulties and this could curb economic growth and reduce employment and incomes.''

The PMI is based on a survey that started in January 2005 of more than 700 companies in 20 industries, including energy, metallurgy, textile, automobile and electronics. A reading above 50 reflects an expansion, below 50 a contraction.

The output index fell to 47.4 in July from 54.2 in June, while the index of new orders dropped to 46.2 from 52.6. The index of export orders declined to 46.7 from 50.2.

Conflicting Survey

The CFLP jointly releases the figures with the National Bureau of Statistics.

A second PMI, released today by CLSA Asia-Pacific Markets, showed Chinese manufacturing continuing to expand last month. The surveys conflict because they have different methodologies. The CLSA index was a seasonally adjusted 53.3.

Output and orders are slowing gradually and from high levels, suggesting that the central bank ``has no room to ease monetary policy,'' Eric Fishwick, head of economic research at CLSA in Singapore, said in an e-mailed statement.

To contact the reporter on this story: Li Yanping in Beijing at yli16@bloomberg.net