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China reported weaker-than-expected inflation over the weekend, highlighting continued sluggish consumer demand despite aggressive stimulus measures. The disappointing data was accompanied by an underwhelming economic briefing by the Chinese Finance Minister on Sunday, likely leading to further declines in Chinese stock markets following the recent stimulus frenzy.

This fading optimism may also weigh on luxury stocks in European markets ahead of the European Central Bank’s (ECB) interest rate decision later this week.

China remains under deflationary pressure

According to the National Bureau of Statistics, China’s Consumer Price Index (CPI) rose by 0.4% year-on-year in September, down from 0.6% in the previous month. The core CPI increased by only 0.1%, the lowest level since February 2021. Factory gate prices, measured by the Producer Price Index (PPI), slumped by 2.8% compared to a year ago, marking the 24th consecutive month of deflation.

In addition, the Chinese Finance Ministry outlined plans to revive the housing slump, yet failed to provide the level of detail investors had hoped for. Finance Minister Lan Fo stated that China would support local governments with their debts and purchase unsold homes, suggesting there remains significant room to increase debt and the fiscal deficit. However, he did not specify the size of the package or announce new measures to further boost consumption. This lack of detail is likely to undermine investor confidence in Chinese stocks.

“Short-term sentiment towards the Hong Kong and China stock markets is likely to remain volatile as the window is closing for Chinese policymakers to meet traders’ and investors’ earlier optimistic expectations,” said Kelvin Wong, senior analyst at Oanda.

Later this week, attention will shift to a critical Chinese economic gauge, the third-quarter Gross Domestic Product (GDP). Some analysts believe China would miss its 5% growth target for the year, having reported a much slower-than-expected GDP growth of 4.7% in the second quarter, following a 5.3% rise in the first quarter.

The surge in European luxury stocks may be not sustainable

Last month, China announced a series of fresh stimulus measures, including cuts to key lending rates, a reduction in the Reserve Requirement Ratio (RRR) for commercial banks, allowing institutional investors to buy stocks through borrowing, and lowering down payments for home buyers. Chinese stock markets surged nearly 30%, while sectors sensitive to Chinese demand in Europe, such as luxury and mining, rose by more than 10% during the week of the policy announcement.

Chinese consumer demand is viewed as a key indicator for European consumer stocks, particularly for luxury brands like LVMH, Hermes, Kering, and Burberry. Investors had anticipated a significant boost in China’s consumer demand following the National Day golden week holiday. However, this sector faltered last week, posting weekly losses of 0.86% and 1.75% respectively, due to waning enthusiasm in the Chinese stock markets.

Dilin Wu, a research strategist at Pepperstone, commented: “I am sceptical about the sustainability of the recent rally in luxury stocks, China’s macroeconomic landscape remains troubling, with persistent deflation stemming from a growth model that prioritises production over consumption,” She referred to China’s focus on manufacturing output and exports, rather than consumer spending.

The European markets are now entering a crucial earnings season, with LVMH reporting its third-quarter results on Tuesday, followed by Hermes and Kering next week. Due to the lagging effects of Beijing’s stimulus measures, the upcoming earnings reports will not reflect the impact of Chinese policies. Despite recent volatility, some analysts remain optimistic, expecting consumer spending in China to recover in the longer term, even if the immediate impact is limited.