investment insights
China’s Plenum, priorities and politics
Key takeaways
- China’s much-anticipated Third Plenum did not deliver radical reforms, just more support for strategic sectors and more emphasis on security
- Growth is slowing, and the Chinese economy remains dependent on exports, with weak domestic demand. We do not yet see sufficient political resolve to change this dynamic
- Additional tariffs on Chinese imports under a new Trump administration could shave 1.5% off Chinese growth in 2025. We expect more volatility in the run up to the November US elections
- We believe any short-term Chinese policy support will be offset by many challenges that are increasingly reflected in Chinese financial assets.
China’s leaders had an unenviable job at their ‘Third Plenum’ from 15-18 July. The meeting, so called because of its order in a cycle of policy-setting summits held every five years to chart long-term economic reforms, was expected to produce a roadmap to dispel perceptions of China’s economic malaise. Yet few concrete measures were announced. While there was support for the green technology and energy sectors, deemed crucial for national security and economic resilience, the results, summed up in three official documents worth 25,000 words in their English translations, fell short of markets' expectations.
Ahead of the meeting, shares in the country’s bellwether property and tech sectors were up by 7% and 6%, respectively. But local investors’ expectations of market-friendly measures were disappointed once again, and Chinese and Hong Kong equity markets posted losses after the plenum concluded.
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What a difference six years make
Back in 2018 when the last Third Plenum was held, things looked quite different. China’s property sector was booming, consumer confidence and retail spending were robust and the economy was growing nearly 7% a year. The Hang Seng China Enterprises index, comprising H-shares that are purchasable by foreign investors, was over twice its current level. Optimism was high and China’s outlook was stable. ‘Peak China’, or the notion that the country had reached the height of its economic power, was rarely discussed, despite President Trump’s imposition of tariffs.
Now even the focus of Third Plenums seems to be changing after six years of economic and geopolitical setbacks. This year’s agenda was more reform-focused than the 19th Central Committee cycle. Still, national security and government’s control permeated the official communication (see chart 1). The market-friendly tone of the plenum held ten years ago has given way to messages around deepening domestic capacities for “Chinese-style modernisation” in a more challenging geopolitical environment.
A major change in the direction of the national strategy is now unlikely, given low appetite for more aggressive reforms that come with political and economic risks. Gestures towards medium-term reforms of rural land use, fiscal reforms boosting local government’s revenues, and migrant workers’ access to welfare in urban areas have been signalled, but these programmes will be rolled out only gradually. Encouragingly, the authorities’ drive for green technology and the net-zero transition seems widely accepted, perhaps due to its linkages to the national vision on energy security and quality of living.
We believe the authorities will act to contain downside risks to the economy. The plenum’s press conference on 19 July characterised the current economic conditions as weak and called for “accelerating the issuance and use of special bonds”. Decisions also guided for more flexible use of bond issuance proceeds and greater control of real estate market at the local government level. The government may therefore commit more resources to converting unsold homes to affordable housing. However, this approach might also be gradual given its high price tag – the equivalent of around USD 0.5 trillion.
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Fading hopes for growth
The ambiguity expressed in the plenum’s final communiqué towards the need to prioritise growth is surprising. China’s economy grew just 4.7% year-on-year in the second quarter (Q2) of this year, its slowest rate since Q1 2023, and below Q1’s 5.3% figure. Of particular concern was the poor performance of retail sales – a proxy for consumer sentiment – which fell to an 18-month low, reflecting widespread deflationary forces at play in the economy.
The property sector also shows few signs of recovery, with new homes sales down a little more than 20% year to date. Consensus growth forecasts for 2024 have been cut below 5%, the official government target, as further downside risks are factored in. We expect China’s growth to slow to low 4% levels in 2025-26 as the property sector and exports face headwinds, and confrontation with the US likely intensifies.
The Chinese economy remains profoundly imbalanced, with few immediate solutions. In Q2, exports grew 8.6% year-on-year, while imports, a proxy for domestic demand, fell 2.3% and credit growth weakened further. Stubbornly low inflation suggests households and private businesses continue to pay down debt. We do not believe this dynamic will be changed through aggressive fiscal policy, for example direct transfers to households, as officials remain focused on supply side expansion amidst intensifying geopolitical competition.
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Bracing for Trump
Growing odds of a Trump victory in the US presidential election suggest increased geopolitical tensions between Beijing and Washington. Mr Trump has spoken of his intention to impose a flat 60% tariff on Chinese imports, which could weaken an already fragile growth outlook.
Even under a relatively benign scenario of trade diversion through third countries such as Malaysia and Mexico, restrained Chinese retaliation and status quo for non-US trading partners, we estimate the tariffs could knock between 1.0-1.5% from China’s growth rate, and depress annual expansion to 3% in 2025 and 2026. If tariffs spread globally, the impact would be even greater, and Chinese growth may fall to just above 2% without offsetting policy support. While Beijing has been guiding for a stable trade-weighted value for the yuan, a one-off devaluation could help cushion the shocks to growth if tariff pressures mount.
The tensions are not only about tariffs. US technology restrictions on China are broadening. On 18 July, tech stocks suffered a sharp drop following reports that the Biden administration was considering tightening restrictions of chip manufacturing technology to China. The tech-heavy Nasdaq index fell 2.8%, its worst day since 2022. We expect such heightened trade policy uncertainties to persist in the run-up to the US elections and trigger sporadic volatility episodes in markets.
A neutral stance on Chinese equities
After staging a strong comeback between late January and mid-May in anticipation of aggressive stimulus, Chinese markets have since lacked direction. The announcement of additional targeted support measures in the coming weeks could see a rebound, amid depressed market sentiment and low valuations of Chinese equities. However, we do not expect these measures to be game changers.
Without convincing pro-market reforms and stimulus, we believe the country’s stock markets will struggle to generate interest among investors who have seen underperformance, weakening growth, and a rising likelihood of tougher trade restrictions from the US and Europe. We therefore maintain positions in Chinese assets at market benchmark levels, with the view that any short-term policy catalyst will be offset by many challenges that are only partially priced in. Ahead of a US election that could lead to new shocks for China’s businesses, a neutral stance on the country’s equities seems the most appropriate one for investors.
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It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful to address such a marketing communication.
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