News Analysis
Over the past decade, China’s powerful economic rise has been well-documented.
Its economic, political, and cultural reach is worldwide, and Chinese leader Xi Jinping has ambitions to propel China into a global power, challenging the United States in wealth and influence.
But like Icarus, China’s meteoric rise has been grounded. While the country is still on pace to increase its official GDP nominally by around 6.5 percent in 2018, that growth rings hollow.
Even casual observers can see that the Chinese economy is sputtering. Huge challenges loom, such as an ongoing trade war with the United States, unabating levels of debt, and a spiraling domestic stock market.
Most investors have been fixated on recent stock market volatility in the United States. But the S&P 500’s decline is benign compared to China’s onshore markets, which were the world’s worst-performing during 2018. The Shanghai Composite Index dropped almost 25 percent during the year, while the technology-heavy Shenzhen composite index performed even worse, falling by around 35 percent.
China’s onshore markets—which do not list any of the well-known Chinese tech companies—have been spiraling for two straight years. It’s become increasingly apparent to retail investors that Beijing regulators are losing their ability to prop up stocks.
The ongoing trade war is also top of mind. “We expect the real shock of the trade conflict to hit home from early 2019,” AXA’s China Economist Aidan Yao wrote in a note to clients.
“Besides the growth impact, the trade war will also accelerate the turning of China’s current account balance, from surplus to deficit, with important implications for both China and the world.”
Both stock market performance and the trade war impact will be closely monitored next year. With that in mind, let’s examine a few other narratives that will impact Chinese markets in 2019.
Real Estate Policy Changes
Beijing has been trying to tame an overheated property market for a few years, by placing restrictions on purchases and sales, limiting financing options for developers, and putting caps on ownership.
That’s great for central risk management, but bad for local governments who depend on fees and revenues from property development and sales.
Facing a property market slump and need to stimulate the economy, Beijing is subtly suggesting that it may allow localized easing and in certain cases let city or provincial governments determine policy. It’s a delicate balance to strike.
Three cities—Heze in eastern Shandong Province and Guangzhou and Zhuhai in southern Guangdong Province—have recently reversed national policy designed to curb real estate sales. So far no reaction has been recorded from Beijing, which has boosted stock prices of real estate developers as investors hope more cities may lift such restrictions.
Policy Shift on Technology
The Made In China 2025 industrial plan was supposed to assist China in becoming a global superpower in high technology.
But the controversial program attracts criticism from the West. President Donald Trump invoked it as one of the flashpoints launching the current trade dispute between the United States and China.
Since the beginning of 2018, Beijing has ceased publicly discussing Made In China 2025. A Wall Street Journal report from early December suggested that Beijing is formulating a “new plan” to be introduced in 2019 that would grant greater access to foreign companies.
That all sounds great on paper, but the Chinese Communist Party isn’t likely going to give up its ambitions. Keep in mind that the Chinese Communist Party holds indefinite rule over China, and can afford to play the long game whereas President Trump—and his foreign policy—might have a maturity date of 2020. Beijing could be delaying or masking its true intentions until global political landscape shifts.
Nevertheless, a pivot in China’s official technology policy should have tangible short-to-medium term impact on global markets. For instance, a delay of the policy or greater market access given to foreign companies—even if temporary—should provide some lift to U.S. stocks, especially for companies in the technology, financial, and industrial sectors.
Declining Private Sector
China’s private sector has made a sizable, positive contribution to the country’s recent economic growth — but the current policy mix is hurting private sector growth.
“China’s private sector is shrinking for the first time in two decades—an extraordinary development contrary to the hopes seeded by the 2013 economic reform objectives and decades of talk about withdrawing the state from the marketplace,” said a recent joint report by the Asia Society Policy Institute and the Rhodium Group.
Beijing has been emphasizing state control over key industries, and its recent deleveraging efforts are cutting off bank loans to smaller, private companies. The crackdown on shadow banking and peer-to-peer lending, declining exports due to the trade war, and the domestic stock market downturn all disproportionately hurt private businesses.
The situation has caused Xi Jinping to come out publicly and offer support to private businesses. At a Nov. 1 symposium on private enterprises, Xi said the “country’s private sector should only grow stronger instead of being weakened and march toward a broader stage,” according to a report by Xinhua, China’s state-controlled media.
Resetting GDP Growth
The official China GDP growth target for 2019 will be closely watched. While most economists believe true economic growth is much lower than the official releases, the official metrics are still an important benchmark and offers insight into the impact of slowing consumption, the trade war, and efficacy of stimulus measures.
The International Monetary Fund in October forecasted 2019 China GDP growth to reach 6.2 percent, which is in the middle of expected official target of between 6 and 6.5 percent.
Beijing has a number of tools to stimulate the economy, although most of them come with significant side effects. Policymakers can tinker with tax cuts, increase infrastructure investments, boost local government debt, reduce banks’ reserve requirement ratios, and lift property development and sales restrictions.
In a nutshell, Chinese policymakers have major decisions to make in 2019.
As analysts from Lazard wrote, in a recent note to clients, “The experience of 2015 and 2016 suggests that whatever the choice, it will have important repercussions for the global economy and markets.”
