Tech crackdown, demand-side reform - Capital Economics
China Economics

Tech crackdown, demand-side reform

China Economics Weekly
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The recent Politburo meeting underscored that reining in the tech sector’s has become a key priority for China’s leadership. The economic consequences of this crackdown are far from clear-cut. But given the tech’s sector role as an important growth engine, the risks appear skewed to the downside. On a more positive note, policymakers also appear to be putting greater emphasis on the need to address the structural factors holding back consumption in China.
– This will be the last China Economics Weekly for 2020. The next Weekly will be sent on Friday 8th Jan. 2021 –

Politburo tea leaves ahead of the CEWC

We’re still awaiting news out of the Central Economic Work Conference (CEWC), which sets the economic targets and policy priorities for the coming year. (See here for what to expect.) We did, however, get some hints of what’s on the agenda from the readout of the December Politburo meeting late last Friday. Two things stood out.

Tech crackdown a key priority

The first was an explicit mention of anti-trust efforts, including a pledge to rein in “disorderly capital expansion”. China’s tech sector wasn’t singled out but reading between the lines it’s clear that it is the primary target. We argued last month that the abrupt cancellation of Ant’s IPO likely foreshadowed a broader crackdown on the country’s tech giants. All the signs since then support that view. Just this week, Alibaba and Tencent were fined for past mergers and Ant was forced to halt its online deposit offerings, marking a clear shift in the regulatory environment. They also face the prospect of a future digital services tax that is now being touted by some officials.

In theory, tougher regulation and higher taxes on the tech sector need not be bad for the economic outlook. Anti-trust efforts that lower barriers to market entry may boost productivity. And taxes could be used to redistribute income from wealthy shareholders to lower income households, helping to support consumption.

But we suspect the tech crackdown will impose some economic cost. The rapid productivity gains achieved by China’s tech sector – which has been the fastest growing part of China’s economy in recent years – are at least partly the result of the “light touch” regulatory approach that is now coming to an end. This headwind will be offset to some degree by a shift in resources towards the government (via taxes) and the sectors that are competing with tech firms (such as the banks). But their track records suggest they will struggle to put the resources to use as effectively.

Attention shifting to deficient consumer demand

The latest Politburo meeting also flagged a shift in the reform agenda. It vowed to continue “supply-side structural reform”, a term that has regularly featured in policy statements since it was introduced by President Xi in 2015. But at the same time said it would pay greater attention to “demand-side reform”, a new addition to the policy lexicon.

This is a welcome shift. Supply-side reform has had some success, mostly in reducing overcapacity in industry. But it hasn’t addressed China’s overreliance on investment to prop up growth and the resulting surge in debt. This reliance has increased lately due to the COVID-19 disruptions and stimulus response – the consumption share of GDP will drop this year to its lowest since at least 2013.

The recent decline is partly cyclical and much of it will reverse in coming quarters. But the consumption share will remain extremely low by global standards. One consequence is that whenever policymakers try to slow the pace of borrowing, investment and hence GDP growth tends to weaken markedly.

Tackling this problem requires implementing reforms that lower China’s elevated savings rate and increase the low share of national income flowing towards households. Some progress has been made on these fronts but not enough to put China’s growth and debt trajectory on a sustainable path.

Redistributing income is politically challenging, even in China. And there are still institutional barriers against greater transfers to households. This won’t change overnight. But the elevation of “demand-side reform” as a key policy priority offers some hope that progress might accelerate.

The rest of the year

This is the last Weekly of 2020 as our offices will be closed between Christmas and New Year. Before then, we are due the Loan Prime Rate (LPR) on Monday, which we think will be unchanged. And around the turn of the year we will get the PMIs.


Data Previews

Loan Prime Rate (Dec.) Mon. 21st Dec.

Forecasts

Time (China)

Previous

Consensus

Capital Economics

Loan Prime Rate (1-year)

09.30

3.85%

3.85%

3.85%

PBOC signals rates on hold for now

The Loan Prime Rate (LPR), the reference point against which banks price loans, was most recently reduced by 20 basis points in April. It replaced the PBOC’s traditional benchmark lending rate in August last year, is published monthly, and set based on quotations provided by banks.

We do not expect any changes to the LPR this month. Admittedly, the PBOC has made several large medium-term lending facility (MLF) injections in recent weeks. But this appears intended to reduce the premium between market interbank rates and PBOC lending facility rates, which had widened in response to bond market jitters, rather than a precursor to a formal change in policy.

Consistent with this interpretation, the PBOC did not adjust the rate on its MLF as it did ahead of the past three LPR moves. (See Chart 1.) This would have been the most straightforward way for the PBOC to influence the LPR, which is set as a spread above the MLF rate. Meanwhile, recent comments by officials, including PBOC governor Yi Gang, suggest that while they are contemplating a further normalisation of monetary policy, they are in no immediate rush to make changes.

Chart 1: Loan Prime Rates and MLF (%)

Sources: CEIC, Capital Economics

Manufacturing PMIs (Dec.) Thu. 31st Dec./ Mon. 4th Jan.

Forecasts

Time (China)

Previous

Consensus

Capital Economics

“Official” PMI (31st Dec.)

09.00

52.1

52.3

Caixin/Markit PMI (4th Jan.)

09.45

54.9

55.3

Industrial activity continues to strengthen

The manufacturing PMIs have continued their ascent recently, reaching multi-year highs last month. (See Chart 2.) Strong exports and an investment-led recovery in domestic demand have been the main drivers.

Early indicators suggest that this upward trend extended into December. The flash PMIs of China’s major trading partners rose, suggesting that foreign demand continued to strengthen. And industrial metals prices, which correlate well with factory activity in China, have risen in recent weeks.

Chart 2: Manufacturing PMIs

Sources: CEIC, Markit, Capital Economics

Non-manufacturing PMIs (Dec.) Thu. 31st Dec./ Wed. 6th Jan.

Forecasts

Time (China)

Previous

Consensus

Capital Economics

“Official” Non-man. PMI (31st Dec.)

09.00

56.4

56.0

Caixin/Markit Services PMI (6th Jan.)

09.45

57.8

57.5

Services recovery appears to be shifting down a gear

The hard data suggest that the recovery in services activity accelerated last month. But high frequency data for December suggest that momentum has softened slightly in recent weeks. Subway usage has levelled off below 2019 levels while car and property sales fell back. (See Chart 3.) This hints at fading pent-up demand from lockdowns earlier in the year. Tighter property controls may also be starting to weigh on housing sales.

Construction activity, which is included in the official PMI, is likely to have been broadly stable. Local governments may have stepped up infrastructure spending in order to meet budget targets. But housing starts are likely to have weakened in response to tougher restrictions on borrowing by developers.

Chart 3: Car & Property Sales (% 3m/3m, seas. adj.)

Sources: Wind, Capital Economics

FX Reserves (Dec.) Thu. 7th Jan.

Forecasts

Time (China)

Previous

Consensus

Capital Economics

Foreign Exchange Reserves

$3,178bn

$3,190bn

Direct FX intervention unlikely

The PBOC’s net foreign exchange purchases have been negligible in recent quarters, with changes in the value of its reserves mainly the result of movements in bond prices and exchange rates.

The offshore renminbi has remained strong relative to the onshore rate in recent weeks. (See Chart 4.) This hints at official efforts to slow the pace of appreciation. We suspect that state banks have been intervening on the PBOC’s behalf in recent months to increase their net foreign assets.

But we doubt that the PBOC has resumed direct intervention after years of staying on the side-lines. The PBOC wants to avoid publicly adding to its FX pile, not least because doing so could trigger the ire of the US and other trading partners.

If so, valuation effects will have been the main driver of changes in the official reserves last month which we estimate will have added around $20bn to the headline number.

Chart 4: Difference between Offshore and Onshore RMB (Basis Points, 7d ave)

Source: Refinitiv, Capital Economics


Economic Diary & Forecasts

Upcoming Events and Data Releases

Date

Country

Release/Indicator/Event

Time (China)

Previous*

Median*

CE Forecasts*

December

Mon 21st

Chn

1-Year Loan Prime Rate

(09.30)

3.85%

3.85%

3.85%

HK

Consumer Prices (Nov.)

(16.30)

(-0.2%)

Fri 25th

Chn

Current Account Balance – Final (Dec., USD)

+94.2bn

HK

Christmas Day (National Holiday)

Sun 27th

Chn

Profits of Large Industrial Firms (Nov.)

Mon 28th

HK

Trade Data (Nov.)

(16.30)

Thu 31st

Chn

Official Manufacturing PMI (Dec.)

(09.00)

52.1

52.3

Chn

Official Non-Manufacturing PMI (Dec.)

(09.00)

56.4

56.0

Fri 1st

Chn

New Year’s Day (National Holiday)

HK

New Year’s Day (National Holiday)

Mon 4th

Chn

Caixin Manufacturing PMI (Dec.)

(09.45)

54.9

55.3

HK

Retail Sales (Dec.)

(16.30)

Wed 6th

Chn

Caixin Services PMI (Dec.)

(09.45)

57.8

57.5

Thu 7th

Chn

FX Reserves (Dec., USD)

+3,178bn

+3,190bn

Also expected during this period:

TBC

Chn

CBRC Data on Assets and Liabilities of Fin. Inst. (Nov.)

TBC

Chn

Trade – Detailed Breakdown (Nov.)

Main Economic & Market Forecasts

%q/q annualised (%y/y), unless stated

Latest

Q4 2020

Q1 2021

Q2 2021

Q3 2021

2019

2020f

2021f

2022f

Official GDP

(+4.9)*

(+7.0)

(+20.0)

(+9.5)

(+7.5)

(+6.1)

(+2.5)

(+10.0)

(+4.5)

GDP (CE CAP-derived estimates)

(+5.1)*

(+7.6)

(+29.0)

(+10.5)

(+5.4)

(+4.0)

(+0.5)

(+10.0)

(+3.5)

Consumer Prices

(-0.5)**

(+0.0)

(+0.6)

(+1.3)

(+1.3)

(+2.9)

(+2.5)

(+1.5)

(+2.0)

Producer Prices

(-1.5)**

(-0.5)

(+1.0)

(+2.5)

(+2.5)

(-0.3)

(-1.5)

(+2.0)

(+1.0)

Broad Credit (AFRE)

(+13.6)**

(+13.5)

(+12.0)

(+11.0)

(+10.0)

(+10.7)

(+13.5)

(+9.0)

(+7.5)

Exports (US$)

(+21.1)**

(+13.0)

(+12.5)

(+7.5)

(-1.0)

(+0.5)

(+3.0)

(+4.5)

(+4.0)

Imports (US$)

(+4.5)**

(+3.0)

(+11.0)

(+16.0)

(+9.0)

(-2.8)

(-1.5)

(+10.5)

(+5.5)

RMB/$

6.54

6.50

6.40

6.30

6.20

6.97

6.50

6.20

6.20

7-day PBOC reverse repo %

2.20

2.20

2.30

2.40

2.50

2.50

2.20

2.50

2.50

1-year Loan Prime Rate (LPR) %

3.85

3.85

3.95

4.05

4.15

4.15

3.85

4.15

4.15

1-year MLF Rate %

2.95

2.95

3.05

3.15

3.25

3.25

2.95

3.25

3.25

10-year Government Bond Yield %

3.32

3.30

3.30

3.20

3.00

3.14

3.30

2.80

2.60

RRR (major banks) %

12.5

12.5

12.5

12.5

12.5

13.0

12.5

12.5

12.0

CSI 300 Index

5,000

5,100

5,250

5,400

5,550

4,097

5,100

5,700

6,200

Hong Kong GDP

(-3.4)*

(+1.0)

(+9.5)

(+11.5)

(+9.6)

(-1.4)

(-5.0)

(+9.0)

(+3.5)

Hang Seng Index

26,499

27,000

28,050

29,125

30,175

28,184

27,000

31,250

35,000

Sources: Bloomberg, CEIC, Capital Economics *Q3; **Nov.; End of period


Julian Evans-Pritchard, Senior China Economist, julian.evans-pritchard@capitaleconomics.com
Sheana Yue, Assistant Economist, sheana.yue@capitaleconomics.com