- NPC sets 2018 growth target at ‘around 6.5%’, in line with our forecast
- NPC’s guiding theme: more power to the centre and to the president
- Reducing financial risk, pollution and poverty remain the key policy goals
- Latest activity data suggests Chinese economy held up well at start of 2018
- Rising trade tensions with the US currently the key risk
- ‘US-targeted’ imports from China under Section 301 looks manageable so far
- … matching with 12% of China exports to US in 2017 and 2.5% of total exports
NPC sets 2018 growth target at ‘around 6.5%’, in line with our forecast
During the annual National People’s Congress (NPC) held so far, we did not see a big overhaul on the economic policy front. The official GDP growth target for 2018 was put at ‘around 6.5%’, in line with our forecast. Compared to last year, the phrase ‘or higher, if possible in practice’ was deleted. That makes sense in a gradual slowdown scenario, as growth firmed last year (to 6.9%) surprising to the upside. Strategic goals highlighted in the work plan were a.o. support for the new economy – confirming China’s rise as tech giant –, stabilising macro leverage, improving access for foreign firms and ongoing supply side reform (such as further reduction of overcapacity in steel/coal). On the fiscal front, PM Li Keqiang announced a reduction of the government’s deficit target, to 2.6% of GDP (2017: 3.0%). That was the first time since 2012 that Beijing aims for a lower fiscal deficit. Still, as the off balance sheet budget – financed by special purpose local government bonds – will rise sharply, the combined deficit would stay around 4% of GDP. On the monetary front, no changes were communicated. The inflation target was kept at 3%. The government did no longer publish targets for lending growth: we expect the gradual deceleration of lending growth to continue under an extended targeted tightening campaign.
NPC’s overarching theme: more power to the centre and to the president
Whereas the macro policy mix is not going to change much, the NPC approved some key institutional changes. Guiding theme is a further centralisation of power around an even further empowered president. The NPC agreed to abolish the two-term limit on a president’s tenure. That rule was installed in Deng Xiaoping in 1982, to prevent the type of tragedies that happened at the end of Mao Zedong’s rule – back in the 1970s. The abolition of this rule will give president Xi Jinping (64) the opportunity to stay in power indefinitely. That may bring more clarity at the one hand, but at the other hand is a longer-term threat for existing checks and balances within China’s communist model. The NPC also approved the inclusion into the constitution of Xi Jinping’s Thought on Socialism with Chinese Characteristics. That implies that deviations from Xi’s policy line could be deemed an offense against the constitution.
Structural changes in the bureaucracy aimed at improving execution of priority goals
The NPC also approved a plan to overhaul the structure of the government. The new structure should make China’s bureaucracy better shaped to execute president Xi Jinping’s three policy priorities: reducing financial risk, pollution and poverty. Regarding financial risk control, reducing regulatory arbitrage and improving coordination between supervisors is a key theme, given the growing scale and complexity of the financial sector. The reorganisation includes the merger of banking supervisor (CBRC) and insurance supervisor (CIRC) into the China Banking and Insurance Regulatory and Management Commission (CBIRC). CBIRC will hand over the mandate of policy formulation and macro-prudential oversight to the PBoC, confirming the central bank’s leading role in overseeing the financial sector and coordination. Regarding environmental protection, two new Ministries will be created: Natural Resources and Ecology and Environment. Ecological civilisation has been included in the constitution as a core goal, illustrating that environmental protection is a strategical goal and not a temporary phenomenon. Regarding poverty alleviation, a new Ministry of Agriculture and Rural Affairs will be founded, with a mandate to upgrade China’s rural infrastructure and modernise agricultural production. On the foreign policy front, the newly established International Development Cooperation Agency should manage China’s foreign aid initiatives to support geopolitical strategies such as One Belt, One Road.
Latest activity data suggest Chinese economy held up well at start of 2018
The macro data for January and February suggest that the negative impact from the air-pollution restrictions on heavy industry in northern China has been limited. Industrial production for the months January/February combined rose to 7.2% yoy (December 2017: 6.2% yoy). This uptick was driven by the utilities and mining sectors, not by manufacturing, with a sharp – cold-weather related – acceleration in electricity production (to 11% yoy in January-February). Meanwhile, fixed investment rose to 7.9% yoy (December: 7.2% yoy), driven by a pick-up of real estate investment (although other construction indicators such as construction starts and land sales slowed significantly). Retail sales growth edged up as well, to 9.7% yoy (December: 9.4%), although coming in a bit below market expectations (9.8%). The data suggest that momentum in the Chinese economy held up well at the start of 2018, with strong external demand compensating for drags from ongoing targeted tightening. Also looking at other indicators (e.g. PMIs, imports), it seems that the strength was concentrated in January. Bloomberg’s alternative GDP estimate rose to a 7-month high of 7.28% yoy in January (December: 6.81%), followed by a drop to 6.84% in February (PM: the Lunar New Year break was concentrated in February this year, versus late January/early February in 2017). All in all, we think the latest data are in line with our gradual slowdown scenario. That said, it is clear that risks on the external front are rising, given that the US is turning more hawkish on trade policy.
… but rising trade tensions with the US add to downside risks
In recent months, the US foreign trade policy has become much more hawkish, as the composition of the Trump administration has shifted in the direction of trade protectionists. In the past months, the US announced the installment of tariffs on solar panels, washing machines, steel and aluminum. While the effects of these measures still look quite manageable, the US is also considering specific measures versus China under a Section 301 investigation on forced technology transfer and intellectual property theft. Allegedly, the US expects China to present a plan to reduce its bilateral surplus with the US by around USD 100 bn. The US allegedly would consider imposing tariffs on up to USD 60 bn of imports from China, targeting specifically the technology and telecommunication sectors.
How ‘big’ are these potential measures?
Let us try to place the figures that circulate in the press into perspective:
According to US Census data, total US imports for China in 2017 amounted to USD 506 bn. For China, the US is its key export destination (around 20% of total Chinese exports are destined for the US). According to Chinese data, total Chinese exports corresponded to USD 2263 billion in 2017. So, while USD 60 bn in Chinese exports to the US is not a negligible amount, we are talking about 12% of Chinese exports to the US in 2017 and of 2.5% of total Chinese exports to all countries in 2017.
China’s bilateral surplus with the US reached a record high of USD 380bn in January, probably adding pressure to the US administration to do something about it. Reducing this bilateral surplus by USD 100bn is equivalent to a 25% reduction. It is also equivalent to almost 25% of China’s total trade surplus in 2017 and to over 80% (!) of China’s total current account surplus for 2017, given that China has a large deficit on its services balance.
Getting rid of almost your complete current account surplus because a foreign government tells you do so sounds quite odd. Still, this is a ‘ceteris paribus’ calculation. In practice, should China agree to this US plan, it could aim to find other destinations for its exports and could reduce imports from other countries to compensate for higher imports from the US. If those replacements would succeed for 100%, China’s overall current account balance does not have to change. In practice, replacements might possibly not take place for 100% and China could end up with a somewhat lower current account surplus.
Many uncertainties remain
Should the US indeed decide to do install such China-specific measures, that would look like a serious escalation of trade tensions. Still, at first sight the numbers are not that shocking if we place them into perspective. It is also yet uncertain to what extent these measures will indeed be taken and to what extent that would mean that Chinese exports to the US would drop (that would also depend on the height of the imposed tariffs). However, further escalation will also depend on potential retaliation by China and on potential second or even third round effects. All in all, uncertainties remain and the risks from escalation trade tensions are not easy to quantify. That said, we feel that protectionist measures from the US are currently the most important risk to our China base scenario of a gradual slowdown.