Lianghui takeaways: China faces another challenging year

• China’s ambitious real GDP growth target of 5.5% in 2022 confirms that fiscal and monetary policy will be loosened this year, in ways that could worsen existing economic imbalances.

• Authorities will pause some of their “common prosperity” objectives in the first half of 2022, while also adjusting policies in the property and technology sectors. This will help to improve market sentiment, but the association of the agenda with China’s president, Xi Jinping, suggests that it will not be abandoned fully.

• Short-term priorities have overshadowed some long-term goals, notably in China’s climate agenda. A conservative approach in addressing China’s demographic issues, however, will preserve population ageing as a long-term drag on the economy.

The implications of China’s growth target for 2022, set at its annual legislative meetings, suggest strong attachment to policy stimulus in ways that may carry consequences for longer-term growth. The rate is higher than the 5.1% annual average recorded in 2020‑21, at a time when macroeconomic fundamentals remain fragile. Despite reported strong economic momentum in January-February, the immediate outlook is clouded by China’s Omicron outbreak, uncertainties tied to Russia’s invasion of Ukraine, as well as stress in the property sector. Separate credit, housing market and inflation data also cast some suspicions on the veracity of recent economic statistics. We caution that operational conditions facing companies in the market may diverge from that suggested by headline growth.

Sacrificing productivity for growth

These factors all suggest official commitment to fiscal and monetary stimulus that exceeds our previous expectations. This will include counter-cyclical fiscal policies that make up for weak domestic private demand and a narrowing trade surplus. Authorities will roll out large scale value-added tax (VAT) refunds and corporate income tax cuts (of Rmb2.5trn, or US$390bn), especially for micro and small-sized enterprises, to ensure operational liquidity and stabilise employment—a policy priority. Front-loaded local government special bonds issuance will be instrumental in supporting infrastructure investment. This will be complemented by targeted monetary policy tools, including preferential refinancing costs from the central bank. EIU expects authorities to nevertheless remain cautious about cutting key policy rates, with an inclination instead towards relying on administrative guidance. We forecast that authorities will introduce one cut to the benchmark loan prime rate in the second quarter, keeping it at 3.55% by end‑2022. 

However, challenges including covid‑19 lockdowns, eroding profit margins (as a result of high producer prices) and weak business sentiment will depress spending sentiment of households and private enterprises. Targeted lending to smaller companies, while enhanced, may still be inefficient to prevent insolvency as economic fundamentals remain challenging; this may prompt a further erosion of the private sector vis‑à‑vis the state-owned economy. 

Central government transfers will also be necessary, as sliding land sales erode local government balance sheets. This will push China’s broad fiscal deficit to rise beyond our current forecast of 5% of GDP. Strong economic performance in 2021 has left a wider pool of carried-over fiscal resources, however, which will cushion fiscal strains in economically challenged provinces, such as in the north‑east.

Shifting focus, for now

The elevation of short-term growth priorities have caused officials to backtrack from some longer-term directives. Most strikingly, discussion on “common prosperity”, the signature policy of the president, Xi Jinping, was absent from the government work report. That campaign, which calls for greater equality and income redistribution, has dented business sentiment, sparked turbulence in the technology sector and contributed to layoffs. 

EIU expects China to pause aspects of the common prosperity agenda, although the plan’s high-profile association with Mr Xi implies that it will not be abandoned. Elements of the “technology rectification” campaign will remain enshrined in recent Chinese laws on personal information protection and data security, but authorities have signalled a more cautious approach to overall technology sector regulation, owing to the impact of market uncertainty on both market confidence and employment. 

The most powerful signal for the economic outlook was the absence of the proposed property pilot tax programme, along with official confirmation on March 17th that these reforms will be delayed beyond 2022. This should restore some homebuyer confidence. However, strict national controls will keep private developers entangled in solvency crises, narrowing local government revenue streams from lost land sales. Authorities will respond with guidance that increases the participation of state-owned enterprises in land auctions and construction; providing financing solutions to distressed developers; and more preferential terms (for example, lower down payment and interest rates) for homebuyers. Eroded household balance sheets, tied partly to covid‑19 lockdowns, will nevertheless suppress related property demand.

Short-term gain, for long-term strain

Acknowledgement of current economic strains has caused China to downplay its longer-term goals, including annual targets for carbon emissions and energy saving, which instead will be assessed “with appropriate flexibility” under the 14th five-year plan framework. EIU interprets this as a tacit acknowledgement of the challenges facing China’s climate goals, as policymakers prioritise energy and supply chain security. Most critically, China postponed its deadline of “peak carbon use” in the steel sector from 2025 to 2030 and has played down narratives around “net zero emissions,” while also signalling an increase in coal mining capacity. This will minimise production disruptions, but it will compromise China’s leadership in the global climate agenda—narrowing one of the few remaining co‑operative avenues with the West. 

One area that has received enhanced attention, however, is China’s demographic challenges. In 2021 the birth rate fell to a record low of 7.52 births for every 1,000 people, exacerbating anxieties around future labour supply and China’s ability to avoid “becoming old before it becomes rich”. To tackle this, the government work report offered more supportive measures for China’s “three-child policy,” including tax deductions for child-rearing expenses for children under the age of three. Officials have also constructed a long-term strategy, based on digital government platforms, to create a “unified national market” that would facilitate the transfer of land and labour costs between different regions, with the hope that better information transparency will improve labour resource allocation among less-developed provinces. 

However, we are pessimistic that the conservative scope of these policies will boost fertility rates meaningfully. Structural impediments, such as persistent gender discrimination and lingering unemployment strains (which have been worsened by recent economic anxieties) will continue to dissuade family planning. 

Other signals around social welfare are slightly more positive. The establishment of a unified pension system earlier this year is an important step towards addressing fiscal shortfalls at the local level, particularly in China’s north‑eastern provinces. However, in the long run, problems including shrinking employee contributions and the uneven delivery of social benefits across different regions will become more pronounced, particularly as pension expenses will triple over the next three decades, according to IMF calculations. A more sustainable pension system, including via a “third pillar” that offers long-term financial investment products, will be indispensable in helping to increase household economic security, allowing for a reduction in precautionary savings in ways that may help to promote private consumption.

More on China’s economic outlook can be found in our country analysis service, EIU Viewpoint. This integrated solution provides award-winning forecasts and data for nearly 200 markets. Learn more about EIU Viewpoint and how you can benefit from our world-class economic and political intelligence here.