China’s Growth Strong Enough For Now To Allow For Structural Change

CHINA’S ECONOMIC GROWTH is slowing. That much we know. The question is whether it is slowing to the point that policymakers run out of headroom for long-term structural change. 

Despite third-quarter GDP growth coming in at 4.9% year-on-year and showing barely any change, a mere 0.2% increase from the April-May quarter, the answer appears to be not yet. 

Monetary, fiscal and regulatory tightening has kept the pace of recovery measured. This has been further dampened by a combination of disruptions to industrial output, which grew by just 3.1% year-on-year in September, the slowest since Covid-19 hit in early 2020. 

The two most severe disruptions have been localised lockdowns to combat Covid-19 outbreaks and power shortages resulting from central government’s orders to provinces and municipalities to cut carbon emissions in support of national commitments to lowering carbon emissions. 

Similarly, the property sector crisis weighed on growth during the quarter. Private and public sector fixed investment slowed, and housing starts fell for six months to September, the longest run of declines since 2015. Home sales were down 16.9% year=-on-yer in September, following August’ 19.7% decline.

Like power shortages, the troubles of Evergrande and other developers, if brought on in large part by their own expansionism, have been triggered now as a result of policy. 

Deleveraging the property sector is a central part of removing financial risk from the system overall. Lowering house prices is a core pillar of President Xi Jinping’s drive to reduce inequality under the rubric of ‘common prosperity’.

Making progress on both goals and keeping full-year growth on track to be well above the ‘about 6%’ official target will make policymakers comfortable enough that they need not change course. 

Growth for 2021 will probably turn out to be 7-8% as it gets a last hurrah base effect from 2020. As the chart above shows, the third-quarter growth rate was pretty much in line with the quarterly growth rate throughout 2019. The economy has long been managed onto a glide path of slowing growth. 

One signal of policymakers’ confidence that they can maintain course was the statement from the People’s Bank of China last Friday that any contagion from Evergrande to the financial system was controllable. It was surely no coincidence that the central bank broke its silence on the Evergrande crisis ahead of the GDP figures being announced.

Another is the publication by Qiushi, the Party’s leading theoretical journal, of Xi’s August 17 speech to the Central Financial and Economic Affairs Commission on common prosperity. 

This puts in the public realm more detail of what is coming to look like the foundational policy for Xi’s third term and the moral and political case for economic rebalancing for China’s next stage of development.

The emphasis on wealth redistribution, which has already seen a crackdown on the country’s tech billionaires, is clear. More affordable homes will be a big part of that, as will be inescapable taxes on the rich. 

Xi does not want to see the collapse of China’s new middle class or risk the social disintegration that could come with it — along with the inevitable challenge to the Party’s legitimacy to monopoly political rule.

None of this is to say that the challenges of managing the growth transition will be easy, and if anything, it is getting more difficult. Beyond the imminent issues of the power crunch and the property market’s woes, the international economic environment is uncertain, with the downside risks increasing, and the domestic recovery remains unbalanced. 

The structural changes needed to promote domestic consumption over savings, the provision of centralised social welfare services and safety nets, and the concomitant changes to a regressive tax system, including the introduction of property taxes, are also significant policy challenges as they hit many vested interests.

China’s demographics are turning unfavourable faster than anticipated, and the middle-income trap is bearing down. Between them, Trump and Covid-19 have cost Beijing precious years in the race for China to get rich before it gets old. What riches it is creating will have to be more widely shared.

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