China’s policy stance is clearly shifting from over-tightening to easing, and with it, the cycle should also turn from a mini downturn to an upswing. This is contrary to what is happening in more advanced economies where fiscal and monetary stimulus is starting to be restrained and rate hikes are back on the horizon. In its latest projections, the World Bank sees the Chinese economy expanding by 5.1 per cent in 2022 which would represent a deceleration in growth from the 8.1 per cent registered last year.
Over the years, China has experienced a number of mini cycles. These mini cycles in growth tend to follow the policy cycles. While tightening starts out as countercyclical, it eventually becomes pro-cyclical, and sometimes because external demand conditions deteriorate. The was the case in mid-2018 with the onset of trade tensions. Once growth decelerates beyond policymakers’ comfort zone, their priorities shift to stabilizing growth and preventing an adverse spillover impact into the labour market.
In the current cycle, with a sharp pick-up in external demand, policymakers struck to their playbook and tightened macro policies to slow infrastructure and property spending. But from the summer of last year, as Delta wave-led restrictions weighed further on consumption growth, continued policy tightening pushed growth lower than policymakers’ comfort zone.
This time round, policy tightening was unusually aggressive, leading to a 10 percentage point drop in debt to GDP in 2021. Indeed, we have not seen this magnitude of debt to GDP reduction in a year since 2003-07 cycle. Moreover, the rapid succession of regulatory tightening actions related to the technology, education and property sectors has taken markets by surprise, adding uncertainty and rolling the nation’s stocks and bonds traded offshore.
Now, with GDP growth decelerating to four per cent on a year-on-year basis in the fourth quarter of 2021, policymakers have hit pause on deleveraging and began to ease both monetary and fiscal policy over the past few months. Bank reserve requirement ratio cuts were coupled with guidance to banks to allocate more credit to priority sectors. At the same time, local government bond issuance has increased significantly, which in turn should translate into stronger infrastructure spending. Moreover, several local governments have also lifted property purchase restrictions.
In early December of last year, policymakers convened at the annual meeting of the Central Economic Working Conference to set the agenda for the economy in 2022. The resulting statement that came out of this annual gathering suggest that there is a clear shift in policy stance, and that authorities will continue to take action in a number of areas to stem the downturn. These policy easing measures will complement the sustained strength in exports and a pickup in private capex, driving the recovery.
The key risk to this thesis in the near term is the Omicron variant. The effectiveness of China’s containment and tracing capabilities has improved over time, such that each successive wave of COVID-19 outbreaks has had a smaller impact on mobility and growth. However, Omicron’s greater transmissibility and the very low efficacy rates of China’s homegrown vaccines, suggests that it will keep China’s COVID-19 zero policy in place for longer and potentially force China to impose more selective lockdowns than during the Delta wave.
Disclaimer: This article was written by Stephen Borg, Head of Private Clients at Calamatta Cuschieri. The article is issued by Calamatta Cuschieri Investment Services Ltd and is licensed to conduct investment services business under the Investments Services Act by the MFSA and is also registered as a Tied Insurance Intermediary under the Insurance Distribution Act 2018.
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