Producers in China are already under stress even ahead of implementation of U.S. tariffs, as indicated by an explosion in corporate borrowing that isn’t being captured by official government statistics, according to the China Beige Book.

“Manufacturing is under fire. The sector’s multi-year rally has given way to declining revenue and sharply declining profit growth,” CBB International said in a report. “Critically, manufacturing’s plight is occurring before any meaningful American tariffs have been imposed. Absent a fall trade deal, this situation will likely deteriorate. The pace of borrowing—at 41 percent of firms, the highest since 2012—sure smells a lot like panic.”

U.S. President Donald Trump last week escalated an ongoing trade dispute with China by announcing new tariffs on $200 billion of Chinese imports to take effect Sept. 24. The Chinese government retaliated with its own tariffs on $60 billion of U.S. imports, leading to concerns that the dispute could have a bigger impact on global growth than before.

Weakness in China’s goods-producing sector in the third quarter of this year was offset by strength on the services side of the economy, according to the private survey by CBB, which collects anecdotal accounts similar to those in the Federal Reserve’s Beige Book.

Old Economy

The contrast underscores China’s efforts to steer economic activity in the coming years away from investment and toward consumption. Strong growth in capital expenditures by the services sector isn’t being captured by the official statistics on fixed-asset investment that have showed a slowdown, because those report outlays primarily from “old economy” sectors like manufacturing and property, CBB said.

But the report warned that the winning streak may not last long.

“A month from now may be just the time retailers start to buckle: they reported the worst payroll health of any sector in Q3,” it said. “Inventory growth was arguably too fast last quarter and accelerated to definitely-too-fast this quarter. The economy needs retail, but retail needs a break.”

Developments in the property market that mirrored those in manufacturing further clouded the outlook.

“Borrowing surged to the highest level in five years, while deteriorating cash flow suggests many firms may have directed this credit to plugging payment gaps,” the CBB report said. “Recent commentary has suggested that Beijing could combat U.S. tariffs by stimulating property. The third quarter’s performance suggests this approach is not viable.”

Reverse Course

The government has been attempting to reduce its fiscal deficit and avoid large-scale monetary stimulus in order to help aid deleveraging in its financial sector, which has seen a large increase in debt in recent years as a result of previous rounds of economic stimulus. Now, analysts increasingly expect it to reverse course on both fronts, at least in part, to grapple with the economic slowdown and threats posed by the trade conflict.

“The debate over deleveraging is becoming passé,” CBB said. “More salient is whether fear of a progressively weakening economy means a return to old school fire-hosing.”