As the world’s second biggest economy and our largest trading partner, Australia’s economic fortunes are tied to China’s. Further, the financial viability of many ASX-listed and unlisted companies are dependent on the continued strength of the Middle Kingdom.
Attending the 16th Annual Deutsche Bank Access China Conference in Beijing recently, I gathered a range of valuable insights into China’s economic drivers and outlook from various presenters including government officials, analysts and representatives from Chinese companies and state-owned enterprises.
With massive credit growth and high fixed asset investment, the Chinese economy remains unbalanced. As the nation continues its transition to a developed economy, China will maintain this emerging economy trait for the foreseeable future.
One of the single biggest dangers to the Chinese economy is the outflow of capital. Significant and sustained net capital outflows could create the impetus for the People’s Bank of China (PBoC) to raise rates. While this could stem capital outflows, it would hurt the Chinese economy, including the property market. In recent months, the government has tightened capital controls with outflows significantly reduced as a result. However, a marked increase in US inflation could undermine the government’s efforts and spur the PBoC to raise rates.
Notwithstanding a collapse of the global economy, I expect China’s economic conditions to remain unchanged in the immediate term with overly bearish predictions to be proved wrong.
The consensus view at the conference was that the yuan will slowly depreciate over the next 12 months as capital outflows exceed capital inflows. A controlled depreciation of the currency is broadly regarded as a positive as the government slowly releases control.
With around 90% of their revenues derived from land sales, local government authorities are heavily reliant on China’s buoyant property market. A property market crash would be catastrophic for local governments and would necessitate costly government bail outs. Therefore, I would expect the Chinese government would take a measured approach to a potential property crash, using the various levers at its disposal to support the property market.
Delivering low returns and absorbing a significant amount of the country’s capital, state-owned enterprises (SOE) are inhibiting Chinese economic growth. The government recognises that a stronger private sector is critical to the economy’s long term productivity and that reforming SOEs is key to achieving this. While progress has been slow, we are seeing the progressive unwinding of selective subsidised industries, including steel and coal through reforms to SOEs.
This is a positive for Australian industry given subsidised SOEs can distort a market creating an oversupply and putting downward pressure on prices.
Risk-averse political environment
Held every five years, the Communist Party’s upcoming 19th National Congress will determine the political direction of China including the leadership and policy agenda. As a significant proportion of government delegates are up for election or re-election, the consensus view at the conference was that China’s leaders are keen to maintain the status quo ensuring current growth levels are maintained. This reduces the prospect of major policy changes ahead of the Congress in the latter part of the year. With the government incentivised to ensure the economy continues to grow, it is hard to envisage a slow-down of the Chinese economy. This current risk-averse political environment provides an important overlay in understanding the outlook for China’s economic agenda.