Abstract: China’s economy faces pressure from insufficient domestic demand in the long term and subdued external demand in the short term. The current problem is how to boost consumption. Booming consumption is the building block of economic growth in the long term. In 2023, against the backdrop of weakening investment and export, there is no doubt that consumption will make a greater contribution to economic growth. The author puts forward three policy recommendations to bolster consumption: (1) improve employment and strengthen fiscal support for households; (2) increase households’ wealth through multiple channels to boost their confidence; (3) promote third distribution to improve the income structure of households.
I. CHINA’S ECONOMY MIGHT GROW AT MORE THAN 5% IN 2023 WITH LOW INFLATIONARY PRESSURE
Q1: What is your outlook of China’s economic growth in 2023? What are the new features and trends of China’s economic recovery this year?
Li Xunlei: First, the wave of COVID-19 cases seems to have passed its peak, which is faster than expected. Last October, the IMF’s forecast of China’s GDP growth was below 5%. Previously, many analyses believed that the first quarter of 2023 might see a negative growth. But now, with the pass of the worst moment of the pandemic, it is highly possible that China’s economic growth in the first quarter of 2023 might witness a positive growth. That’s why the IMF recently revised up its estimate of China’s GDP growth in 2023.
Second, consumption recovered quickly, but the momentum of the rebound might weaken as time goes by. During this spring festival, consumption bounced back much stronger than the same period in 2022, but did not get back to the pre-pandemic level in 2019. When the “spring festival effect” fades away, the rebound of “revenge” consumption might diminish. I reckon that consumption growth in 2023 might arrive at 7~8%.
In terms of investment, the role of infrastructure investment in stabilizing growth in 2023 may not be as strong as in 2022. I think infrastructure investment may continue to expand in 2023, but its growth rate might decline to around 6%~7%. One reason is that real estate investment will recover moderately this year, so the need to offset the slide in real estate investment through a significant expansion of infrastructure investment is less stronge. In 2022, the growth of real estate investment kept falling, reaching -10% year on year. But in the 3rd and 4th quarters of 2022, several supportive policies were adopted, which can help reduce the decline of real estate investment growth. This year, the growth of real estate investment is expected to be around -3%. Manufacturing investment might also face a downward trend, and its growth rate is expected to reach 5~6%.
As for export, given the slowing down of global economic growth in 2023, external demand might continue to weaken, putting great pressure on China’s export. China’s import growth could outperform its export growth, which means the contribution of net export to GDP growth might turn negative in 2023.
Overall, the “triple pressures” facing China’s economy might ease this year, but the pressures will still be there. China’s macroeconomy in 2023 will gradually get back on track. Against the backdrop of weakening investment and export, consumption is expected to be the main driver to stabilize the fundamentals of the economy. GDP growth might surpass 5%. Given the pressure of overcapacity due to declining export, inflationary pressure in 2023 would not be too high.
II. THE MAIN ISSUE TO ADDRESS LIES IN CONSUMPTION
Q2: Recently, the market is debating whether internal demand should be stimulated by investment or consumption. What is your take on the relation between investment and consumption?
Li Xunlei: In December 2022, the State Council released the Outline for the Strategic Plan to Expand Domestic Demand (2022-2035), noting “the fundamental role of consumption and critical role of investment”. It can be seen that investment and consumption are both essential to boosting internal demand.
On the whole, China’s economy faces long-term pressure from internal demand and short-term pressure from external demand. The biggest issue is structural problem, or the question of growth model. The current issue to address is consumption. In 2023, employment pressure would be large, which requires us to enable the smooth flow of internal circulation. Policy should be devised to encourage consumption and investment, targeting both households and private businesses. Throughout history, whenever the economy was facing downward pressure, we usually adopted counter-cyclical policy to drive investment, because it’s easy to implement and produces immediate effects. Investment can play a critical role in stabilizing economic growth.
For example, the yoy growth of China’s fixed-asset investment in 2021 was 4.9%, of which that of infrastructure investment merely 0.4%. One important reason is that the economy was hit hard by the COVID-19 pandemic in 2020, and given the low base effect, the economy can thus maintain a growth rate of over 8% even without massive investment. But in 2022 when the economy was facing huge downward pressure, infrastructure investment continued to accelerate, and by the end of December, infrastructure investment grew by 9.4% year on year, up by 9 percentage points compared with the same period of 2021. This shows that amid huge downward pressure on the economy, investment can play a critical role in stabilizing growth.
However, the problem of over-investment in infrastructure has emerged. It is increasingly difficult to find good investment projects as the return on projects is decreasing and liquidity is facing more stress. Therefore, we’re finding it harder to rely on the investment-driven model for economic growth and should instead look to consumption to drive growth.
Booming consumption is the building block of economic growth in the long term. In 2023, there is no doubt that consumption will make a greater contribution to economic growth. On the one hand, after pandemic control is relaxed, consumption will rebound due to “revenge spending”; on the other hand, against the background of weakening investment and export in 2023, consumption should be the driver of economic growth in order to stabilize the fundamentals of our economy. The Central Economic Work Conference at 2022 year-end also made it clear that “stabilizing and boosting consumption should be a priority”.
Q3: In 2022, deposits held by the household sector stood at 17.8 trillion yuan, an increase of nearly 8 trillion yuan over the same period in 2021, which some called excess savings. Do you think these excess savings will be used for consumption?
Li Xunlei: I think it’s hardly possible.
First, the excess savings should be understood as money saved for investment for future security, instead of consumption. A significant portion of the excess savings comes from reduced holdings of financial products, as well as reduced spending on housing. The consumption rate of the residential sector, that is, the proportion of residents’ disposable income used for consumption, may not change significantly.
Second, a large part of the excess savings is held by the high-income group, which has originally been planned for investment. The main body of consumption tends to be the middle and lower income groups, so it is difficult to convert the excess savings into consumption.
III. THE CORE LIES IN IMPROVING HOUSEHOLD INCOME
Q4: What do you think should be done at the policy level to expand consumption, overcome the scarring effect of the pandemic and reverse the contraction in demand?
Li Xunlei: Currently, the scarring effect is easily felt. For example, both residents and businesses are uncertain about whether the pandemic will resurge again. Some of the scarring effects can fade over time, while others may last longer. The real estate market in the US has stayed weak since the subprime mortgage crisis in 2008. Even in this round of market boom, no sharp rises were recorded, reflecting the long lasting scarring effect of the financial crisis.
The reversal of demand contraction is a long-term task that requires ongoing efforts. The triple pressures of demand contraction, supply shocks, and weakened expectations are closely related to China’s long-term growth model and economic structure. A series of long-term reforms are needed to solve these problems.
At the policy level, from the perspective of institutional reforms for the distribution of benefits among the three major sectors, namely the government sector, the corporate sector and the household sector, the core lies in raising the income of residents. There are three main recommendations.
The first is to increase employment. The country must increase financial support for the household sector to raise the overall income level of the residents, especially the middle and low income groups, and steadily increase the proportion of disposable income of the household sector to GDP. Consumption incentives such as those aimed at promoting rural spending on home appliances and subsidies for new energy vehicles are too limited in their effect. Specifically, the central government should increase its leverage by issuing special government bonds for consumption vouchers while raising the fiscal deficit rate to over 3%.
Second, diversify the channels for property income to improve residents’ consumption confidence. With the fall in housing prices nationwide, the property income of the residential sector has been significantly reduced. For this reason, on the one hand, a multi-pronged approach is needed to stabilize land prices, house prices and expectations; on the other hand, efforts must be put in place to expand sources of property income beyond real estate investment so that the residents can receive property income from diversified financial asset allocation. This also requires policy support for the development of the capital market to prevent the occurrence of systemic risk given the current low valuation of equity assets in general, and to attract long-term capital from institutional investors and increase the proportion of foreign investment in the market. Efforts must be stepped up to promote the standardized and healthy development of the capital market, launch more financial products that can meet the needs of household wealth management, and increase the investment income of residents.
Third, expand the scale of the third distribution and improve the income structure within the residential sector. Tax reform should be implemented to transfer part of the income of the high-income group to the middle and low-income groups, so as to increase the income share of the latter. China’s income structure of the household sector features an excessively large income share of the high-income group. According to the data of the National Bureau of Statistics, in the total population, per capita income of the highest 20% is more than ten times that of the lowest 20%. Thus it is essential to develop social philanthropy and encourage donations by the wealthy class. The current scale of social donations in China as a percentage of GDP is way below the global average, indicating large room for further development. In 2021, the proportion of social donations to GDP in China was 0.2%, while that in the United States was 2.3%. Efforts to increase the scale of the third distribution can raise the income level of the middle and lower income groups and thus bolster consumption.
In short, only by raising the income level of residents, increasing government spending on social security, medical care, education and pensions, and improving social security, can people gain the confidence and willingness to consume.
Ⅳ. THE DOWNTREND OF THE REAL ESTATE MARKET MAY SLOW BUT UNLIKELY TO SEE A REVERSE
Q5: Has the worst of China's real estate risks passed? What do you think is the biggest risk now? How do you see the long-term trend of the real estate market?
Li Xunlei: I don't think so. Last year was the first year when the real estate market entered the bust part of the cycle, and we may experience a decade-long decline, gradual but long-lasting. China's real estate market is highly regulated. International experience shows that if the pace of regulation in a downtrend is not well controlled, house prices may fall more sharply.
On the other hand, the real estate downturn will be a great drag on China's economy, and affect the performance of banks and other financial institutions, resulting in an overall decline in asset quality. One of the most significant risks is credit risk. We must keep an eye on the rise in local debt and bank non-performing ratios. If house prices continue to fall, the mortgage default rate may rise. We have always considered housing loans to be high-quality assets for banks, but in the scenarios described above, such high-quality loans may eventually turn into high-risk loans.
Therefore, China must exercise utmost caution in real estate regulation and try its best to stabilize land prices, house prices, and expectations, so as to acehieve a "soft landing" for the real estate market.
China has entered a decade-long population decline, with nearly 30 million people turning 60 this year. The real estate boom is dependent on demand, but the accelerated aging of the population will result not only in a slowdown in urbanization but also in a decrease in the share of young people in the total population, both of which will end the more than two-decade-long boom in the real estate sector. It should also be noted that China's rapidly aging population is putting undue strain on the Chinese economy.
This article was released on CF40’s WeChat blog on February 5, 2022. The views expressed herewith are the author’s own and do not represent those of CF40 or other organizations. It is translated by CF40 and has not been reviewed by the author.
