Investor Skepticism Towards China's Economic Upgrading Plans

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Chinese leaders are aiming for a strong growth rate this year and are shifting their economic focus towards technology innovation.

Beijing's plan to implement this vision is still unclear, and their reluctance to introduce significant stimulus measures to boost income and encourage spending has left investors feeling disappointed, causing many to sell off their investments.

Premier Li Qiang revealed on Tuesday that the economic growth target for 2024 is set at around 5%. He acknowledged that achieving this goal will be challenging, especially since the impact of Covid on the economy in 2022 has created a lower growth base for last year. Additionally, he emphasized the importance of prioritizing industrial upgrading and embracing technological innovation.

After the targets were revealed on Tuesday, Hong Kong’s Hang Seng Index dropped by 2.6%. So far this week, the index has decreased by about 1% and has seen a loss of nearly 20% over the past year.

According to Sarah Tan, an economist at Moody’s, the support level is probably insufficient to help the economy reach its 5% growth target for this year, as mentioned in the measures announced by Li on Tuesday.

Higher household spending is necessary to stop deflation in China. Deflation means prices for goods and services continuously dropping.

In January, consumer prices decreased at the quickest rate in 15 years, making it the fourth consecutive month of decline. Throughout 2023, prices only went up by 0.2%.

She added that the direct household transfers we were hoping for did not materialize.

In recent years, Beijing has chosen not to implement large-scale projects to increase consumer spending and stimulate the economy. Unlike other major economies during the Covid-19 pandemic, China did not provide nationwide cash handouts.

Walking a tight rope, China has managed to avoid the widespread inflation seen in other countries. However, this success has come at a cost, with disposable household income decreasing due to stagnant wages and plummeting property values.

Global investors and policymakers are closely watching China's growth trajectory, as it plays a crucial role in driving global economic expansion. Beijing is facing a challenging situation where it must balance the need to boost growth with the goal of keeping government debt in check. This is why stimulus measures from the Chinese government have been relatively limited.

Consumption spending in China is still weak.

Consumption spending in China is still weak.

Local governments across the country are facing financial challenges due to a combination of three years of strict pandemic controls and a real estate crash. The pandemic controls, which ended in early 2023, have had a significant impact on government finances. Additionally, the real estate crash has further strained local government coffers, resulting in a substantial amount of debt that authorities are now grappling with.

Goldman Sachs analysts pointed out on Wednesday that China is facing a delicate balancing act when it comes to fiscal policy. They mentioned that the country is currently walking a fine line between implementing infrastructure stimulus and reducing the debt of local government financing vehicles (LGFVs).

The analysts also highlighted that China's recent challenges, particularly in 2023, indicate that local governments may not have enough resources to effectively support economic growth. This is due to factors such as a significant decline in the property market and increasing debt levels.

Li has decided to set this year's budget deficit at 3%, which is the same as last year's initial target but lower than the final figure of 3.8%. He has given local governments the green light to issue special bonds worth 3.9 trillion yuan ($542 billion), which falls on the lower end of the market forecast range of 3.8 trillion to 4.1 trillion yuan ($570 billion). This amount is considered relatively modest. These special bonds are primarily used for infrastructure projects.

To address the risks associated with local government debt, Beijing has advised 12 highly indebted local governments to postpone or stop certain state-funded infrastructure projects. This information was reported by Reuters in January, based on information from unnamed sources.

According to analysts at Goldman Sachs, these 12 provinces make up approximately 22% of China's total infrastructure investment and 18% of the country's gross domestic product (GDP).

Nomura analysts expressed their concerns about the challenging GDP growth target of around 5% due to the crackdown on local government debt, the struggling property sector, and the higher base of comparison in 2023.

In addition, there are lofty tech goals that need to be met in order to drive economic growth and innovation.

During his speech, Li focused on China's strategic goals, particularly the plan to increase the annual budget for science and technology by 10% to $51.6 billion, marking the largest increase since 2019 following years of minimal growth.

He emphasized that the main objective for 2024 is to advance the construction of a modern industrial system and speed up the development of "new productive forces."

President Xi Jinping introduced the term "new productive forces" last year, referring to high tech sectors like new energy vehicles, artificial intelligence, renewable energy, and advanced manufacturing. This term highlights Xi's goal to advance the high-tech and green industries of the future and propel the country forward in the global competition for essential technologies.

In an aerial view, a container ship sits docked at the Port of Oakland on August 7, 2023, in Oakland, California.

In an aerial view, a container ship sits docked at the Port of Oakland on August 7, 2023, in Oakland, California.

Justin Sullivan/Getty Images

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China's exports have seen a significant increase, driven by demand from emerging markets such as India and Russia.

Premier Li, in the work report, has promised to enhance China's position in the global value chains and improve the competitiveness of products labeled as "made in China."

Peiqian Liu, Asia economist at Fidelity International, highlighted China's focus on improving its industrial supply chain and manufacturing capabilities in the long term.

However, simply talking about it won't be sufficient. Liu emphasized the need for specific stimulus measures, like boosting manufacturing investments, to reach the ambitious 5% growth target.

Monetary policy, which includes interest rates and other tools used by central banks, is the main weapon for stimulating growth. Pan Gongsheng, governor of the People’s Bank of China (PBOC), mentioned on Wednesday in Beijing that the bank has various policy tools available and there is still potential for more interest rate cuts.

The PBOC plans to keep liquidity at reasonably ample levels this year while also working on boosting confidence and stabilizing prices.

In a recent move, the PBOC decreased its five-year loan prime rate by 25 basis points, marking the most significant cut since 2019.

Jefferies analysts mentioned on Tuesday that there is a strong possibility of the PBOC increasing its balance sheet using structural tools in the future to support sectors like tech, energy, and consumption.

Editor's P/S:

The article presents a complex and nuanced view of China's economic trajectory, balancing the country's ambitious growth targets with the challenges it faces. Beijing's shift towards technology innovation is a significant move, recognizing the importance of high-tech sectors in driving future economic growth. However, the reluctance to implement substantial stimulus measures to boost income and spending has dampened investor sentiment, leading to sell-offs and a decline in the Hang Seng Index.

Despite the government's efforts to contain inflation, deflation remains a concern, with consumer prices decreasing at their fastest rate in 15 years. The article highlights the need for higher household spending to address this issue, but the absence of direct household transfers and limited stimulus measures has raised doubts about the government's ability to achieve its 5% growth target. The challenges facing local governments, including financial constraints and debt, further complicate the economic outlook. Beijing's balancing act between implementing infrastructure stimulus and reducing local government debt remains a delicate one, and the modest issuance of special bonds may not be sufficient to support economic growth.