China's services PMI reach 7-month high

The country’s services PMI rose by 2.7 points in May due to profits from new business inflows.

Though May's level is still well below the series' long term average of 57.3, the scale of the monthly gain recorded the second largest in the series' history thanks to a notable increase in new business. All these helped to raised hiring activities to the fastest level in three months .

Despite the improving demand, inflation points to squeezed profit margin for Chinese services providers. Unlike the softening input prices growth in manufacturing sectors, services companies are faced with more pronouncedi nput cost pressures, as input price growth quickened to the fastest pace in six months at 56.3 in May mainly reflecting the higher labour and raw material costs. Yet, the pass-through is limited in a highly competitive environment, as the price charged sub-index slowed to a five-month low of 51.2 in May. Such deteriorating conditions for profit margin, plus the slowing growth amidst tightening, could be a main reason for the weakening the business confidence sub index, which hit the lowest level since the series begun in November 2005.

The improvement in services PMI suggests the impressive resilience of China's services sectors thanks to the rapid household income growth, the tight labour market and the secular trend of rising demand for services.

The latest China PMIs suggests Beijing's tightening measures to fight inflation didn't cause any sharp slowdown in either manufacturing or services sectors.As such the worries about over-tightening are unwarranted. Rather, despite the signs of slowing input inflation in manufacturing sector, it is hard to see inflationary pressure peter out anytime soon. In other words, inflation still outweighs growth as the top macro risk. As such, Beijing will keep tightening via additional RRR and rate hikes for another 2-3 months to bring inflation meaningfully in to 2H this year.