China is in a long-term transition to quality growth. Yet, it's the near-term structural issues that make the headlines: cautious consumption, a leaky housing bubble, and reduced export demand. Deflationary pricing and industry consolidation will follow. But firms that hold fast will benefit from the government's ability to steer the economy well and from China’s competitive private sector.
Members debated the outlook during our annual China CEO Forum Retreat in May 2023, which took on the over-arching theme of "Building Resilient Positions for Growth"; how to build lasting business resilience & competitiveness in an uncertain, fast-changing geopolitical landscape.
Its three-day agenda incorporated sessions on Positions for Growth; The China Narrative with HQ; Building the China CEO’s Team; Where will AI Lead Us; and Developing Content Across China Ops. This Insight captures key points of discussion and comments at the first session, led by Ning Zhu, Senior Partner and Head of China at Brunswick Group.
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+ Growth comes from faith in the government’s ability to steer the economy in the right direction and China’s competitive private sector.
+ China is in the process of transitioning to quality growth. The long-term trend line is to move to a more sustainable, demand-driven economy with less debt.
+ Short term, however, China faces many headwinds and structural issues: sluggish consumption, a housing bubble, shrinking export demand and declining worker productivity.
+ Significant government stimulus won't be coming. China has an oversupply problem which stimulus would exacerbate. Expect prices to drop and industries to consolidate in the coming months.
China has a history of nailing enviably high growth targets. That is, until Covid hit, and things got messy. Since then, growth targets were missed or not set at all.
‘In 2020, China grew at 2.2%, but we did not miss the target that year because there wasn’t one. In 2021, we exceeded the target of 5% by a lot, landing at 8.2%. We also missed the 2022 target when Covid infections tore through the country.’
Now, the pressure is on to meet the target once again. Most economists expect China to return to plus or minus one percentage point (+/-1%) of the stated goal of ‘about 5%’ GDP growth.
‘The official 5% target is intentionally low, so it easily can be - achieved. Our view is the economy will grow around 5.5%.’
2023 may be a return to predictability, but will it also be when China hits its peak growth?
‘There's no longer the 8% plus growth potential for China in the coming decades. We will go down one step at a time until we reach 3% or 4%. I don't anticipate a return to 6% or 7% again. This year will be much better than the next two.’
Where will the growth come from?
China faces headwinds and structural issues, which is why its economic growth is slowing. So where will the growth come from? One answer is faith in the party.
‘Growth will come from confidence in the party. Historically, the party and the government have been remarkably effective at navigating difficult times and delivering growth. They selfcorrect and pause if needed.’
Secondly, growth will come from China’s highly innovative, competitive private sector.
‘The hard-working, entrepreneurial spirit of Chinese people propels growth. We have the largest number of engineers and STEM students in the world. China's human capital investment has been amazing. We have people willing to work hard with the right skill sets to deliver outcomes. If we go down the right path, growth is still promising.’
However, growth is no longer Beijing’s top priority.
‘Economic growth has given way to national security concerns. It is not that economic growth is no longer important, but that it’s no longer the only game in town. China needs growth to have the resources to increase its national security capabilities.’
While it is optimistic to think that China can match or beat its targets, there is another way to put China’s 5% target in perspective – the low base effect of the terrible year before.
‘I am optimistic we will surpass the official growth rate because it is building on the low base of 2022. We must remember how bad 2022 was with the lockdowns, the inability to travel, and all the business disruptions. In 2023, the second-half growth will be stronger, not because the economy is doing great, but because the base is relatively low.’
Stimulus won’t save the day
Change to a consumption-led economy was on the way when Covid hit. Local governments depleted their resources, paying for zero Covid policies, and tax revenues dwindled when businesses were forced to shut down.
‘My Chinese colleagues perceive the government to have unlimited resources and money. They think if the government wants to do something, of course, it can. There is contradictory information. Billions went to pay for the PCR tests, and lowertier cities are showing signs that they are sorely cash strapped.’
Poor local governments may not be the main reason stimulus has yet to be forthcoming. Rather, Beijing is showing its resolve to curb the excesses of oversupply.
‘Stimulus doesn’t do much when there’s over capacity. Market consolidation is required. Beijing is focused on medium-term fixes: housing is for living in not investing, financial services are opening, and high-tech industries and education are being prioritised.’
This is not to say that no stimulus will come in the second half. Some sector-specific, demand-driven policies are likely to arrive, but they won’t move the needle on the economy as a whole.
‘Beijing will provide mild monetary and modest fiscal stimulus such as purchasing incentives for real estate, cars, and major appliances, with some investment incentives for firms. But none are likely to have a positive impact as the demand headwinds are strong for consumer, corporates, and government spending.’
China is at an inflection point. The stimulus policies of the past will not be revisited.
‘The decades of volume growth in China are over. Stimulus measures aimed at lifting sales volume have had a marginal impact. Beijing isn’t willing to unleash a big stimulus, as it delays consolidation.’
At the same time, deflationary pressure is building. Expect prices to drop, until the excess capacity is eliminated.
‘China has overcapacity due to weak local and export demand. Producer prices could fall 5% this year and 5% next year. China is likely to export this deflation.’
Near term headwinds
The Chinese economy has three big drivers – domestic consumption, exports, and real estate – and all are hurting.
Domestic consumption: ‘Domestic consumption is sluggish and will likely continue. It would be a simple solution to hand out cash or consumer coupons, but the government lacks the resources and won't raise the debt level.’
Exports: ‘Economists predicted exports to be down in March, but they grew 14% due to pent-up demand around the Chinese New Year. If exports increase by 10% this year, this will translate to three to four percentage points of growth, but we know exports are unsustainable and will drop back down.’
Property: ‘After seeing what happened in Hong Kong several years ago, the party realised housing can no longer be allowed to grow as quickly as it did in the past decade. The real estate slowdown is a short-term challenge.’
Foreign direct investment: ‘Inbound FDI for China fell. Compared to 2019, the number of projects in China last year was down 60%, and capital investment was down 68%.’
Productivity: 'Youth unemployment is more than 20% and growing. Flexible deployment is prevalent among younger generations and is one excuse for not being able to employ all the young people. The size of the civil service and SOE workforce will expand. SOEs are praised more for ensuring social stability than profitability. My concern is this will hurt productivity.’
Long-term: transitioning to quality growth
The party is steering the economy away from debt, low-cost manufacturing and exports towards demand-driven consumption, innovation, and self-sufficiency. This transition is a tough one to pull off, but critically important for China to continue to grow.
‘China is undergoing a fundamental transition from high-speed growth into high-quality growth that is financially more sustainable. It means containing or reducing debt, pushing “common prosperity”, and being greener.’
‘China no longer relies on the sweatshop-manufacturing model but has become “Designed in China” with China R&D. If the reforms are implemented correctly, I have confidence it will pay off in the coming decade.’
The heavy-handed implementation of reforms became the news story in the West. The real story was that China was tackling issues that many countries are struggling to solve.
‘Looking at the goals – scaling back monopolistic power, improving labour conditions, protecting personal information and privacy – they are not that different from what the EU and the US are also doing.’
New metrics are needed to incentivise local officials for the transition to quality growth to succeed. Shaking off the decades-long reliance on GDP as the way for officials to get ahead will take time.
‘The way officials could get promoted was to grow the economy as fast as possible. This caused the housing bubble and why debt accumulated. Little was invested in social security, health care and education because those things only spend money and don’t go into GDP.’
‘There needs to be a new incentive system. We need a flexible set of criteria, such as the percentage of school kids going into college, the percentage of people treated in public hospitals etc., but we still don’t have it.’
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