China factories recover in June, growth fastest in three months - Caixin PMI

BEIJING, July 3 (Reuters) - China's manufacturing engine cranked back into growth mode in June, expanding at the fastest pace in three months after unexpectedly contracting in May, as new orders and production rose in a sign of a modest recovery, a private survey showed on Monday.

Yet, even as markets welcome the recovery in factory activity, firms showed a reluctance to restock as business confidence slumped to the lowest for the year amid a government crackdown on debt risks and tightening financial conditions.

The Caixin/Markit Manufacturing Purchasing Managers' index (PMI) rose to 50.4 in June, above the 50-point mark that separates growth from contraction on a monthly basis.

That was well above the 49.5 level forecast by 25 analysts in a Reuters survey, and up from May's reading of 49.6, the first contraction in 11 months.

Improved orders helped nudge activity into expansionary territory, even though firms surveyed noted demand still remained relatively subdued both in domestic and international markets.

Total new orders rose to 51.0 - the highest level in three months - from the previous month's 50.3, with new export orders also rising. The rate of expansion in production also quickened in June, and the pace of job shedding - which has been persistent since late 2013 - eased to the slowest in three months.

Chinese manufacturers' confidence about the 12-month outlook for production fell to the lowest level this year, the survey showed. And while businesses still remained generally optimistic, the overall mood was one of caution, underscoring challenges faced by companies as higher borrowing rates raise the costs of financing.

The Caixin readings were echoed by the official PMI on Friday which also showed surprisingly robust growth in China's manufacturing sector, but the official data was still much more bullish compared to the private survey which tends to focus on smaller firms.

The divergence suggests that much of China's recent economic strength remains strongly dependent on heavy industry and continued government stimulus, benefiting mainly large state-owned firms, as worsening financing conditions have in particular added to struggling smaller firms' plight.

PRESSURE ON GROWTH

Small and medium-sized firms (SMEs), forming the bulk of the country's private investors, contribute about 60 percent of China's industrial output and create 80 percent of China's jobs. But many of them are expected to go out of business this year, as profits shrank and bankruptcies rise.

That reinforced analyst views that economic growth is likely to slow in coming quarters given continued government efforts to rein in debt risks through a concerted deleveraging effort.

"The June reading was more like a rebound, with an economic downtrend likely to be confirmed later," Zhengsheng Zhong, Director of Macroeconomic Analysis at CEBM Group, said in a note accompanying the data release.

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Operationally, firms signaled further strain, highlighted by a sustained increase in backlogs of work, the survey found.

Companies adopted a relatively cautious stance towards their inventories, with both stocks of inputs and finished items declining in the month in a sign firms have been reluctant to actively restock.

To make matters worse input prices rose on the back of higher raw material costs, suggesting a renewed pressure on operating margins.

While manufacturers were able to pass on part of the higher costs to consumers, the underlying picture was one of trying to grow profits under a challenging economic climate.