News Analysis
The term ‘decoupling’ gained significance in 2019. On the surface, it’s used to describe the reduction of interdependence between China and the United States in global trade and commerce.
President Donald Trump placed tariffs on Chinese goods to address a number of longstanding grievances against Beijing: currency manipulation, forced technology transfers, domestic subsidies, and cyber espionage against U.S. businesses, to name just a few. China has stepped up its domestic technology research, aiming to decrease reliance on U.S. technology and project global leadership in a few emerging fields such as blockchain, 5G wireless, and artificial intelligence.
But decoupling also aptly describes a different trend—that the United States and China’s respective economies are undergoing changes differently. The U.S. economy, by all accounts, is booming. Even CNN’s public poll (conducted by SSRS) finds that 76 percent of respondents believe the U.S. economy is either very good or somewhat good, the best rating in 20 years.
China’s economic situation is different.
“The downward pressure on the economy has increased,” the state media Xinhua News stated earlier this month. China is experiencing its slowest economic growth in decades, and that pressure has partially fueled the need to come to a trade agreement quickly. Beijing is expected to strategically stimulate the economy as China braces for sub-6 percent nominal GDP growth going forward.
Five major storylines have shaped the Chinese business and economic environment during 2019. All of them will be major factors going into next year.
Phase One Trade Deal Reached
The United States and China reached a deal to de-escalate the ongoing trade war in December.
After almost two years of on-again and off-again tariffs and trade war threats, the countries agreed to a new deal, which sent global stocks soaring. China has committed to U.S. agricultural purchases, ending forced technology transfers, increasing protections for U.S. intellectual property rights, and adding new commitments to a stable yuan currency. The United States agreed to not proceed with new tariffs and would partially cut existing tariffs introduced in September.
The agreement, which was reached in principle after months of negotiations, still needs to be legally reviewed and translated; it’s expected to be signed in January 2020. The two sides have already started negotiating a phase two agreement, according to U.S. officials.
The trade deal further stoked financial markets. The S&P 500 rose 1.7 percent in the five trading days following the deal’s confirmation on Dec. 13. On the year, the S&P has gained more than 28 percent and has maintained record highs.
Waning GDP Growth
China’s third-quarter GDP growth of 6 percent annualized was its worst in more than 30 years.
Economists know that the official National Bureau of Statistics gross domestic product growth (GDP) figure is inflated. But the nominal 6 percent has become a psychological threshold that, if breached, could trigger political embarrassment, mass investor sell-off, and widespread consumer panic.
China’s annual growth figures have been falling for years. This year, Beijing has been implementing economic stimulus measures—mainly in the form of infrastructure spending—but not with the usual gusto. It has all but conceded that 6 percent-plus growth may not be achievable going forward. Several think tanks, investment banks, and even the International Monetary Fund (IMF) are predicting sub-6 percent Chinese economic growth in 2020.
Salvaging all the growth it can is a key reason that China has rushed to a preliminary trade deal agreement with the United States. It desperately needs to keep factories open and goods moving.
Beijing Prioritizes Blockchain Strategy
China has high ambitions for its state-controlled digital currency. Earlier this year, Chinese Communist Party leader Xi Jinping specifically conveyed his support for blockchain technology—but not bitcoin or any decentralized digital currency.
China’s strong endorsement of a blockchain-based central bank currency and the West’s relative aversion to the technology opens an interesting new front in the growing U.S.–China technology rivalry.
Developments in fintech, payments, and blockchain digital currencies are receiving support from the highest levels of the Chinese central government. Beijing has designated Hainan, an island province in the south of China, as a pilot zone for the technology. China is also believed to be readying a central bank digital currency.
Whether blockchain can be a successful technology underpinning global payments is still an open question. Current blockchain technologies still have speed and volume limitations. But if China becomes a technology leader in that space, it could be a detriment to other countries.
China could bypass the dollar-based global banking system and intermediary banks. Moreover, it could augment China’s ability to track where money is going, increase state surveillance, and ultimately exert more control over people, businesses, and governments transacting with the technology.
Debt Defaults Becoming the Norm
Chinese commodities trader Tewoo Group defaulted on its U.S. dollar-denominated bonds in December, becoming the biggest default by a Chinese state-owned enterprise (SOE) since 1998.
Beijing has become more comfortable with debt defaults in recent years. That’s one way of describing the trend—and perhaps a more apt description is that Beijing is forced to accept more defaults simply because it has no other choice. Chinese companies have binged on debt for too long and regulators can no longer afford to bail out every defaulting company.
Onshore—or yuan-denominated—bonds have witnessed record defaults this year. Around 4.9 percent of all privately owned bond issuers defaulted on bonds through November 2019, according to credit rating agency Fitch Ratings. Bloomberg data shows 120 billion yuan ($17 billion) of principal defaults through Dec. 3, on pace to break last year’s record of 122 billion.
Beijing has been allowing a more diverse set of companies to default, including both privately owned and SOEs in several industries. Peking University Founder Group—an affiliate of a state university—failed to repay a 2 billion yuan bond due earlier this month.
Expect more defaults in 2020.
Bank Failures Rising
There’s been a spate of bank failures in China, especially among small to midsize regional banks.
Shandong Province-based Hengfeng Bank, which had been bailed out earlier this year, went through a 100 billion yuan ($14 billion) restructuring on Dec. 18, selling shares to state governments and foreign investors in a rescue brokered by the local government.
Chinese regulators have seized or bailed out lenders at an unprecedented pace amid a surge in bad debt. Hengfeng and Baoshang Bank, another bank bailed out earlier in the year, are both linked to the troubled Tomorrow Group, whose billionaire founder Xiao Jinhua was detained in 2017 as part of Xi’s crackdown on corruption.
Numerous institutions have struggled with bank runs and financial troubles, partly because of high interbank rates, which close off a major funding source for smaller banks. Central government policy also has forced banks to step up lending at increasingly lower interest spreads. And China’s increasing amount of bad debt casts another dark cloud over smaller banks.
China has thousands of small lenders, mostly serving individuals in rural areas and small businesses. While they’re less systemically important than national lenders—which cater to large businesses and state-owned enterprises—their customers are the common people.
If they begin to fail at a faster pace, it could undermine the Chinese Communist Party’s social stability.
