We’re going to see pretty soon whether this man [China’s President, Xi Jinping] is for real.
THE above quote, from Chinese Studies professor Kerry Brown in this FT article, is something else that you should print out and pin on your chemicals company boardroom wall. You then need to write below this print-out, “Yes, he is for real”, and next sit down with your colleagues and build your new strategy for China.
As the FT quite rightly points out, so far we have seen very little yet in terms of significant economic reforms. This is despite the fact that the reforms that have taken place have already resulted in China’s lowest official GDP growth in a quarter of a century ((real GDP growth is likely to have been even lower).
What we have heard to date is just the overture, not even the first movement of the symphony. But the overture should still have made you sit up and listen. Xi has:
- Stuck with an anti-corruption campaign, unlike his two predecessors who also launched but then quickly abandoned their own anti-corruption campaigns. Some 150 top officials have been removed from office, along with thousands of lower-ranking government, military and corporate figures. This anti-graft programme has proved hugely popular because of the widespread belief that it is “not what you know, but who you know” that gets you ahead in China. So, in sticking with his campaign, Xi has built-up tremendous popular support. He has also removed many of the officials who would have blocked the main phases of his reform programme.
- When he first came to office three years ago, unlike his predecessors he immediately assumed control of the party military commission. The authority of the Communist Party largely stems from the People’s Liberation Army. He also immediately reduced Politburo Standing Committee to seven from nine members. Xi heads this committee.
- Over the last 12 months he has further strengthened his position through increasing the influence of “leading groups”. These reformist groups are said to be pushing the State Council – on paper the top legislative body in China -more firmly in the direction of reform. State media has openly discussed the increased role of one particular leading group – the group that covers financial and economic affairs. It first began to gain attention last summer, following the bundled attempts by anti-reformers to rescue the Chinese stock markets.
The heat seems to have been stepped up even more over the last few months.
A 9 May People’s Daily front-page article, which was reportedly penned by Liu He who runs the leading group on financial economic reforms, included the following comment on China’s debt levels:
A tree cannot reach the sky. Any mishandling [of the situation] will lead to systemic financial risks, negative economic growth and evaporate people’s savings. That’s deadly.
The “authoritative figure”, who officially wrote the article, added that China’s economic recovery would be L rather than U or V-shaped, and that Xi’s “supply-side” reforms had to be implemented. The following day’s issue of the People’s Daily then republished key passages from an earlier Xi speech about these supply-side reforms. He said that reforms would involve more economic pain, although he promised that the pain would be less than that suffered by laid-off workers in the UK and the US during the 1980s.
The People’s Daily article had helped prepare the country for an acceleration of reforms, whilst delivering another broadside to the anti-reformers. This broadside was in response to the H1 renewed surge in bank lending. Too much of that extra credit flowed to the real-estate sector, re-inflating the property bubble. A great deal of lending also went to servicing the existing debts of state-owned enterprises (SOEs), where the overcapacity burden is the greatest. Meanwhile, the private more innovative companies that have to succeed if China is to achieve its economic reforms remained short of affordable finance.
In their excellent July/August PH report, Paul Hodges and Daniel De Blocq van Scheltinga make some very important further points about how Xi has laid the groundwork for speeding-up the reform process.
They write that up until now the reform of the SOEs has been “glacial due to the powerful interests involved”.
But the authority of another key government body, the State-owned Assets Commission, has been extended, added the PH report. It is now in a position to force-through SOE consolidation by, for instance, closing-down state-owned companies that have been losing money for three consecutive years. The management of SOEs is also set to be depoliticised through the appointment of independent corporate executives on SOE boards of directors, who will replace government officials.
We are thus at a pivotal moment. Xi has consolidated his control over the economy whilst also warning everyone that the next, most important, phase of economic reforms is set to begin.
This will involve lower credit growth over the rest of this year. At the same time, though, China will continue to support its export trade to compensate for weaker growth at home. As discussed on Monday, people have taken their eye off the ball this year. They have largely overlooked the decision to allow the yuan to weaken in order to support exports. Remarkably, the depreciation is greater than in 2015.
Will Xi ultimately be successful? We really don’t know. In my view, I think he will succeed, but you have to plan for all eventualities. China faces a “race against time” to replace a failed growth model with one that works.