Chinese industrial output is estimated here to have risen by only 1.5% (not annualised) in the six months to August, after adjusting for seasonal and holiday effects – the slowest growth since February 2009. This weakness was foreshadowed by stagnation of real narrow money, M1, between mid 2011 and spring 2012 – see first chart.

Real M1 has since recovered, its six-month change rising from -0.3% in June to 5.1% in July before easing to 2.6% in August. Allowing for the typical half-year lead, this suggests better economic news around end-2012. Growth, however, remains modest by historical standards – the six-month real M1 rise averaged 7.1% over 1998-2007. A proper economic recovery, involving above-trend expansion, requires further real money acceleration.

It is, therefore, concerning that Chinese monetary policy has been on hold since a cut in official rates in July. Market rates, indeed, have drifted up recently, a development attributed by some to the authorities failing to offset a liquidity drain due to a balance of payments deficit (i.e. capital outflows outpacing the still-large current account surplus) – second chart. Apparent complacency may reflect a focus on broad money, M2, and bank loans, which are growing faster than M1 but have an inferior recent forecasting record.

Chinese economic prospects are improving at the margin but caution remains warranted pending additional policy relaxation and / or a further recovery in real M1 expansion.