Paper tiger, hidden dragon?

How bearish should one be on China’s economic outlook?

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In late May underwhelming purchase manager index readings for preceding months prompted us to cut our 2023 gross domestic product (GDP) forecast to 4.9 per cent, down 0.5 per cent from our previous forecast.

"Despite market concerns about high corporate debt, Chinese households are cash rich, holding total net deposits of USD$6.5 trillion. You can bet that once consumer confidence improves, it will unleash their massive spending power.”

At the same time, we highlighted deflationary pressures and the risk of China entering a Japan-like “lost decade”. But are such scenarios inevitable? After all China’s resilience has stood the test of time.

With a population of 1.4 billion people and established infrastructure, China is not your typical emerging market – vulnerable to external shocks.

Thanks to the sheer size of its domestic market, even when its GDP slips to 3 per cent by 2030 it will still add, on average, US$1 trillion annually to the global economy. This still makes it the biggest contribution from Asia.

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Another crucial factor is the current cyclical downturn is largely intended. Faced with problems in their economy, China’s policymakers have chosen structural reforms over debt-fuelled, property-led growth.

In simple terms, the government prefers ‘high quality development’ over ‘GDP growth’. While prudent, it also entails a painful transition.

With both population and productivity falling, China has few choices aside from aggressive supply-side reforms – in the form of tax cuts and reduced regulations.

Calculated risk

But long-term investors will not write off China immediately. The opportunities are too vast and varied. Business leaders will visit, observe and take calculated risks.

Long-term equity investors will look for value within China, seeking opportunities that a macro investment fund – driven by broader themes of monetary policy and politics – may overlook.

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China still enjoys several so-called “structural enablers” over the longer term.

Primary among these is the story of Chinese urbanisation. Infrastructure has grown 7.5 per cent year on year in the first five months of 2023. And the urbanization rate is still low at 65 per cent. Because of this many “city clusters” are being developed and will likely be a source of productivity improvement.

Also crucial for the growth story are Chinese supply chains. Like Japan and Germany decades ago, China’s industrial industry remains robust. These global supply chain logistics, all leading back to China, took years to establish. As a result China is not easy to replace, just ask anyone involved in the electric vehicle sector.

Another “structural enabler” for the Chinese economy is the humble household balance sheet. Despite market concerns about high corporate debt, Chinese households are cash rich – holding total net deposits of US$6.5 trillion. Once consumer confidence improves, households will unleash their massive spending power.

Nations need to invest in change to advance and China is doing just that. China’s decarbonisation efforts led to investment in clean energy of US$546 billion, the world’s highest in 2022. Renewable energy now comprises 47 per cent of power generation capacity, up 2.5ppt and surpassing coal.

Finally, China’s current account is in surplus. Foreign debt is only 14 per cent of GDP and is fully covered by US$3 trillion of foreign exchange reserves.

This is a country that can withstand external financial shocks.

Raymond Yeung is Chief Economist for Greater China at ANZ

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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