Recently ranked by Bloomberg as among the top three forecasters of China's economy, Wei Yao, China Economist within the Cross Asset Research department of Societe Generale Corporate & Investment Banking, explains the major economic changes currently underway for this key player in the global economy.
China has entered an era of new economic ‘normal'. Instead of pursuing rapid growth rates at the cost of deteriorating efficiency, Chinese policymakers have chosen to undertake structural reform and accept the associated slowdown in growth in the short term.
We think that China's economy is now half-way through this process of structural deceleration. In 2014, its real Gross Domestic Product (GDP) growth slowed from the previous 7.7% rate to 7.4%, falling below the government's target for the first time since the Asian Financial Crisis of 1997. In the first quarter of 2015, China's economy expanded by 7.0% year-over-year, the slowest pace in the past six years. We expect GDP growth to continue to fall over the next five years before settling around 5%.
Most of the slowdown will occur in investment. Housing investment is unlikely to experience a quick rebound given the high level of supply in lower-tier cities and the tight funding conditions faced by developers. Manufacturing investment will probably remain on a downward trend before the excess capacity in a number of heavy industries is properly consolidated. Infrastructure investment, which was mainly funded by local government debt in the past, will also be slow as the central government starts to implement measures to contain local government debt as part of its fiscal reform.
Embracing this new economic normal, the Chinese government is committed to reform and has made solid progress so far, especially in the financial market.
Wei Yao, China Economist within the Societe Generale Corporate & Investment Banking Cross Asset Research department
The good news is that the rebalancing of the economy towards consumption is gradually taking place, thanks to resilient wage growth and improving income distribution. The widening of the trade deficit in the service sector, notably due to rapidly expanding tourism, is clear proof of the rising purchasing power of Chinese consumers, which will provide numerous opportunities for investors and corporates around the world. However, since consumption is currently only a small part of GDP, the resilience of Chinese consumption is unlikely to keep GDP growth from falling further over the medium term.
Embracing this new economic normal, the Chinese government is committed to reform and has made solid progress so far, especially in the financial market. The People's Bank of China, China's central bank, just put in place a deposit insurance scheme and is now ready to completely liberalise deposit interest rates this year, while capital account liberalisation is also accelerating. Quotas for programmes such as QFII and RQFII, which allow qualified foreign investors to invest in China's capital markets, have continued to expand. In November 2014, Shanghai-Hong Kong Stock Connect was launched, enabling investors in mainland China and in Hong Kong to buy shares listed on each other's equity market.
With the implementation of critical reforms, China's new economic normal means a state of slower growth but also one of better quality. While some short-term pain is inevitable, the long-term prospects are certainly improving.