China: Tighter policy and stable growth?

March 09, 2018 15:42
In his Work Report, Premier Li Keqiang signaled less policy support by lowering the fiscal deficit target to 2.6 percent from 3 percent in 2017. Photo: Bloomberg

China kicked off its annual liang hui this week, the twin meetings of the Chinese People's Political Consultative Conference and the National People’s Congress that aim to set policy priorities over the coming year.

Given the momentous constitutional changes expected to take place, including removing presidential term limits, these meetings will receive more than the usual attention. Beyond the expected political changes, the meetings also set economic targets and policy priorities around growth, the budget, credit, money supply, etc.

Despite the often dry language in the communique, these meetings may yield interesting economic insights for two reasons.

First, Xi Jinping should have considerably less vested opposition to reform than during the past five years and he may want to use these meetings to strike a strong tone on reform.

Second, the Third Plenum is usually the venue for announcing reform and policy goals, but given the slightly chaotic schedule of recent party meetings, including a quickly convened Second and Third Plenum over recent weeks, the National People’s Congress could carry greater significance.

On Monday, Premier Li Keqiang delivered the Work Report which laid out the economic targets for 2018. While the GDP target was unchanged from the “about 6.5 percent” growth of last year, the report signaled less policy support by lowering the fiscal deficit target to 2.6 percent from 3 percent in 2017.

This is important as a signal in terms of policy bias, but we caution about reading too much into the change. The official budget is only one component of policy support and the majority of fiscal stimulus actually occurs off budget.

Nevertheless, we think the change in deficit target is indicative of a policy stance which has shown a tightening bias since early last year. Other notable changes include omitting monetary (M2) and credit (TSF) targets, the first time they have been absent since 2009.

This might be due to the fact that both data points have become less reliable in recent years and targeting "stable" growth in both would entail substantially lower targets than last year, which could be uncomfortable to communicate. Lastly, a targeted unemployment rate was included for the first time.

Throughout much of the Work Report, and indeed likely to be a major theme throughout the entire National People’s Congress, was a focus on "higher quality" growth and the three goals of preventing risks, alleviating poverty, and pollution reduction.

But the question remains: Are these goals compatible with a 6.5 percent growth target? With reduced policy support in the form of a lower fiscal deficit target and steadily weaker credit growth, it will be hard to reduce stimulus and maintain steady growth.

This is especially evident given recent data weakness; industrial production volumes (according to our measure) have declined from a high of 6.9 percent year on year in early 2017 to 2.3 percent y/y in December.

PMIs are also showing a downward trend, especially in small and medium enterprises, which is precisely where policy support is supposedly being directed.

If not for the large contribution from net exports last year, and especially in the fourth quarter, growth would be on a weaker footing.

As the economy appears to weaken under tighter policy, and with policy set to tighten further, we will be watching exports closely for signs of negative growth surprises. Last year exports and information technology came to the rescue, but this year involves tougher trade-offs.

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Senior Emerging Markets Economist, Aberdeen Standard Investments