Jasmine Kang, Hong Kong-based portfolio manager at Comgest, recently visited Luxembourg and explained to Investment Officer how China sees the current global financial conditions as an opportunity to “decouple” and become more self-sufficient. China’s centrally managed economy is well placed in a world where rising interest rates, surging commodity prices and increasing geopolitical tension continue to haunt global investors.
China, which accounts for some 20 percent of the global GDP, is largely shielded from global volatility because of state policies in recent years while its government has ample room to support its economy, said Kang. With no significant inflation and relatively low debt levels, China is positioned to launch a major push for domestic consumption, a move that would let it achieve its long-term ambition of overtaking the US as the world’s biggest economy.
But that will not happen before the effects of this year’s economic slowdown have been digested. April GDP data pointed to annual growth of less than 2 percent, compared to official government projections showing 5.5 percent GDP growth for this year.
China’s slowdown ‘voluntarily’ managed by government
“Because of the Covid policy there is no way they are going to achieve that goal this year,” Kang said. “Even if the lockdowns were to be finished this month we are talking about 4 percent nominal GDP growth. If the lockdown lasts until the third quarter, actual GDP will be even lower than 4 percent.”
“We think China will maintain a careful stance on Covid until the third quarter this year,” she said, speaking during a recent roadshow to clients which included a Luxembourg visit. “The very strict lockdown will not be applied in the whole nation across cities. That is our baseline.”
This year’s slowdown in China can be attributed almost entirely to the effects of government actions, including Covid lockdowns in Shanghai and several other cities, as well as carbon emission controls and tighter regulation of the Internet sector introduced last year, measures “all voluntarily put down by the Chinese government,” said Kang.
The prospect of China’s 2022 Party Congress, which is expected to endorse a third five-year term for Xi Jinping as China’s president, also plays a role in the timing of the Covid-lockdowns. “They want to be more careful as they want a stable society. They do not want, for example, the death ratio to rise or a hospital run to happen before that. They probably want to keep the status quo,” she said.
Just last Wednesday, China’s premier Li Keqiang urged officials to help companies resume production after the Covid lockdown in order to revive the economy.
Covid as a ‘short-term headache’
On balance, Comgest believes the Covid-impact on China’s long-term growth scenario is “more like a short-term headache”, Kang said. “To quote from one paper: the actual lockdown costs are actually there for one, single quarter. It’s just that. That’s all. So it seems that whenever they decide to take a pause and accept the fact that Omicron is so difficult to control, the economic development should recover in a short period.”
Economic prospects for the longer term are largely guided by China’s “dual circulation strategy” that has been added into its 2020-2025 five-year plan. Dual circulation means China wants to tap into its domestic consumer base of 1.4 billion people and add domestic consumption as a second pillar underpinning its economy, next to exports.
China watchers have described dual circulation as the country’s attempt to become self-sufficient. Now that Western economies are suffering from higher inflation, spurred by war-fuelled hikes in energy and commodity prices and by lockdown-slowed exports from China, it appears the time has come for China to push this strategy to the fore.
“The Chinese government can decouple from the global economy,” said Kang. “So we were talking about weaker global potential. Risks in the global economy, especially with interest rates rising, are going up. China is decoupling from those.”
‘China does not have an inflation issue’
Inflation in China currently is below two percent. That is much less than other Asian economies and significantly less than the level of about ten percent for emerging market economies.
“First of all China does not have an inflation issue,” she said. “Inflation was not an issue for China for quite a long period. It is different from many other countries, for developing countries. Even when we talked about the lockdown, the supply chain domestically - so the shipping, the railway, essentials - those were actually mostly functioning. The last mile delivery in Shanghai… that was suspended. But the goods movements among cities were almost normal.”
Higher commodity and energy prices on world markets will be “carefully managed” by the Chinese government before domestic consumers are exposed to them. “They might give some window of guidance to gas companies, the natural gas pipeline companies, how they can pass on the upstream cost, and when they can pass on that. So that also smoothes out the upstream cost pressure.”
The costs of food - notably pork - and property and rental costs, can also be managed by the government, although they are relatively low compared to energy. “It takes time for China to pass on the costs, but in the end, it won’t be as big an issue as for other countries.” Kang said.
Global inflation presents opportunity for China
For a state-controlled economy such as China, global inflation thus also presents an opportunity to deliver on its dual circulation strategy. “If we extend that time horizon a bit, China has an abundant supply of labour, of plants making affordable goods. And in the foreseeable future, China will not, for example, see increases in global textile or toy exports. Those can easily be produced in lower income countries leaving capacity for products with higher added value.”
Furthermore, China’s external debt is relatively low, around 12 percent of GDP, less than half the levels seen for other Asian and emerging market economies, according to Comgest. And due to what the People’s Bank of China calls “effective macro policies”, its leverage ratio, measuring combined government and private relative to GDP, fell to 272.5 percent in 2021 from 280 percent in 2020. It leaves room for fiscal policies that stimulate economic growth, lowering interest rates.
Kang said such a policy leaves room to invest in China’s ambitions in clean energy projects, in semiconductors, infrastructure projects like data centres, high speed internet systems and cross-country high-voltage cables. It can bolster an economic climate with a solid outlook for Chinese companies including those that are listed as A-shares on China’s local stock markets. Foreign investors are permitted to collectively own 30 percent in each of these listed companies.
‘Why let war disrupt the agenda?’
Interest in Chinese shares has waned in recent months as Russia’s war against Ukraine made investors wonder what would happen if China were to invade Taiwan. US President Joe Biden on Monday said the US is ready to intervene militarily if China were to invade Taiwan. As White House officials played down his comments saying these don’t constitute new policy, a Chinese foreign ministry spokesman said “no forces, the US included, can hold back the Chinese people’s endeavour to reunify the nation”. So tensions remain.
Kang, as someone closely connected with China’s business community, said she sees a broad consensus among her country’s peers in favour of a peaceful approach. Maintaining the current status quo is in the best interest of China, Taiwan and the US.
“There’s a popular consensus among Chinese entrepreneurs and economists saying that, as long as China keeps on doing what China does today - so working on the reforms, innovations - China will be, in the foreseeable future, bigger than the US,” said Kang. “So why let a war disrupt the agenda China is doing? So our understanding is that it is also in the best interest for China to maintain a peaceful relationship.”
Comgest is a Paris-headquartered global asset manager with some 41.5 billion euro in assets under management.
Chinese A share companies close to 30% foreign limit as of May 20:
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