Chinese manufacturing expanded at the fastest pace in 16 months in August, supported by the country's credit surge and providing further evidence that the world's third largest economy is heading toward recovery.

The Purchasing Managers Index, a measure of the nation's manufacturing activities, rose to 54 last month from 53.3 in July, the China Federation of Logistics and Purchasing said yesterday.

The PMI has been above 50 - the threshold indicating an expansion - for six straight months.

"The continued rise in China's PMI suggests industrial production is accelerating," said Sherman Chan, an economist at Moody's Economy.com. "Domestic demand remains a key driver of manufacturing momentum on the mainland, but the reading for new export orders remains flat."

Production up

The PMI sub-index for production hit 57.9 in August, up from 57.3 in July. New orders rose to 56.3 last month from 55.5 a month earlier while new export orders held at 52.1, indicating that external demand is still lackluster.

Erick Fishwick, head of brokerage firm CLSA's Economic Research, expects the manufacturing indicators to remain well supported in the coming months.

"However, further large gains should not be expected because current data are already close to previous-cycle peak levels," Fishwick said. "Thanks to the huge investment surge, China has accelerated from growing well below trend in the fourth quarter of last year to well above trend in an amazingly short period of time."

China loosened its monetary policy in November last year to stimulate the economy and counter the effects of the global financial crisis.

Chinese banks extended a record 7.73 trillion yuan (US$1.13 trillion) in new loans in the first seven months, a jump of 173 percent from a year ago and busting the 5 trillion yuan target set earlier for this year.

But while the manufacturing sector appears to have staged a recovery, policy makers have begun to worry about the quality and sustainability of the growth.

Last week, the State Council, China's Cabinet, said it would try to curb overcapacity and excess investment in industries including steel and cement. Regulators said they would also enhance management in flat glass, chemicals, wind power and polysilicon production, which have shown signs of overcapacity.

Despite such concerns, many economists remain optimistic about China's economy as domestic demand shows strength.

"The August PMI report affirms our view that economic momentum will continue to pick up," said Peng Ken, an economist at Citigroup. "We maintain our call that GDP growth would reach 10 percent in the second half and peak out at 11 percent in the first half of next year." He warned of a potential danger from inflation, however.

China's gross domestic product rose 7.9 percent in the second quarter of this year, up from 6.1 percent growth in the first three months.

(Shanghai Daily September 2, 2009)