China last week released figures which showed solid GDP growth of 9.7 percent year-on-year (YoY) for the first quarter of the year, beating market expectations.

However, on a quarter-on-quarter (QoQ) basis, GDP growth for the first quarter decelerated considerably, up only 2.1 percent or at an annualized rate of 9.2 percent versus 12.0 percent in the fourth quarter of 2010.

I believe the country's economy will continue weakening on a QoQ basis in the second quarter after factoring in the laggard effect of consecutive tightening measures by the central government.

Although I predict one more 50 basis points (bps) hike in the required reserve ratio (RRR) and another 25 bps hike in interest rates by the second quarter, I believe China's overall policy tightening will end in the middle of the second quarter and this will help improve market sentiment in the second half of the year (note: the People's Bank of China has just announced a 50 bps RRR hike over the weekend).

On the inflation front, the trend is broadly in line with expectations as the CPI hike is under control, although non-food prices posted raised new concerns.

The CPI and PPI hikes reached 5.4 percent and 7.4 percent YoY, respectively, in March. It is noteworthy that overall food price growth moderated in March, rising only 11.7 percent YoY. Non-food CPI picked up 2.7 percent YoY in March 2011, compared with 2.0 percent YoY in January-February 2011, reflecting increasing inflationary pressure in non-food segments.

Fixed-asset investment (FAI) and industrial output growth slightly accelerated despite monetary tightening. FAI slightly increased to 25 percent year-to-date (YTD) in March from 24.9 percent YTD in February due to acceleration in manufacturing investment as well as solid growth in real estate investment. Stronger-than-expected FAI growth in the first quarter was mainly due to solid growth of 34.1 percent in real estate investment during the period.

Industrial output accelerated by growing 14.8 percent YoY in March versus 14.1 percent YoY in the first two months. This is echoed by manufacturing investment acceleration since the fourth quarter of 2010. I believe manufacturing sectors will sustain strong production growth, driven by robust exports and domestic consumption.

Retail sales growth improved to 17.4 percent YoY in March, aided by sales growth in consumer staples. Retail sales of food & beverage and clothing realized strong growth of 40.0 percent and 35.0 percent YoY, respectively, in the month. However, sales of automobiles and property-related consumer discretionary remained weak, as evidenced by slower growth of 18.7 percent YoY in automobile sales in the first quarter.

Exports resumed strong momentum but net exports are expected to contract in the second quarter YoY. The country's exports jumped 35.8 percent YoY in March. This, together with import growth of 27.3 percent YoY, led to a slight trade surplus in March and a small deficit of $1 billion in the first quarter. Exports are expected to continue to see strong growth of 20.0 percent in the second quarter and realize a net export of $32 billion in the second quarter, which will be a reversal of the trade deficit posted in the first quarter, despite a 28 percent YoY decline.

The author is an associate director and economist at CCB International Securities Ltd. The opinions expressed here are entirely his own.

(HK Edition 04/19/2011 page2)