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George Magnus

January 25th, 2021

China’s Bittersweet Recovery From COVID-19

1 comment | 57 shares

Estimated reading time: 10 minutes

George Magnus

January 25th, 2021

China’s Bittersweet Recovery From COVID-19

1 comment | 57 shares

Estimated reading time: 10 minutes

  • Predictions of a “Chernobyl Moment” for the Chinese Communist Party in early 2020 have proven incorrect. On the whole, China’s economy has recovered well from the COVID-19 pandemic, and political stability has been maintained.
  • However, key target areas for economic reform, including consumption, social spending, income inequality, and debt, remain a concern and in some cases regressed in 2020.
  • Productivity growth is particularly crucial for China’s economic prospects. While some steps have been taken in this area, deeper reform is required for longer-term sustainable economic development. This, at present, does not seem forthcoming.

For the best part of 3 months, the Chinese government suppressed information and discussion related to the outbreak of the coronavirus pandemic. After acknowledgement in late January 2020, followed by draconian containment measures, several pundits thought China would have a ‘Chernobyl moment’. The economy fell into its first officially recognised contraction since the last year of the Cultural Revolution in 1976. President Xi Jinping was thought to be facing the strongest challenge to his office since coming to power in 2012, endangering both his authority, and the legitimacy of China’s ambition for global leadership. The Chernobyl analogy, though, was incorrect.

Following a bad first quarter, China posted 3 quarters of growth so that the economy ended up growing, officially, by 2.3 per cent in 2020, the only major country to grow at all. It also weathered former President Trump’s trade war. The Communist Party went on the offensive against other countries, such as Australia and India, as well as its own citizens in Hong Kong and Xinjiang Province. It laid claims to global leadership by providing global public goods, for example in healthcare and by taking on global governance challenges. President Xi has, if anything, been emboldened, asserting the Communist Party’s role in not only conquering the pandemic but also eradicating poverty, and propelling China’s technological progress.

Towards the end of 2020, the China-sponsored Regional Comprehensive Economic Partnership trade agreement among 15 Australasian countries was finally signed. Further, after 7 years of negotiations, China and the EU signed the Comprehensive Agreement on Investment, which makes a political statement even if this relatively lightweight treaty failed to be ratified. All things considered, though, with the pandemic still raging around the world and American democracy fighting to get its sea-legs back, China is, understandably, claiming bragging rights, and more.

Yet, the strands of this narrative, which aligns with the Communist Party’s messages to its citizens and the world, needs to be scrutinised more closely. For there is much more, and indeed much less, to it than is apparent.

Economic recovery, nuances and imbalances

The official 6.8 per cent fall in GDP in the year to the first quarter was bad, but it doesn’t map well with other measures of a much steeper slump in activity, and a rise in unemployment that may have surged through 20 per cent as tens of millions of migrant workers went home and couldn’t return to work. According to a recent academic study using a model based on commercial traffic measures, the annual decline in GDP might have been as large as 19 per cent.

Whatever the truth, China succeeded in turning the economy around in the spring. As infection rates and fatalities ebbed, restrictions were eased, and people started to lose their fear of congregating in public. Production rose first, and gradually, hospitality, leisure, retail and transportation followed.

Policy support measures also helped. The monetary authorities injected significant liquidity support and allowed credit, especially to local governments and state enterprises, to expand at the fastest rate since 2017. According to the IMF, the government provided discretionary support of around 4.7 per cent of GDP, much less than in developed economies. Like them, China increased spending on epidemic prevention and control, introduced some tax cuts and tax reliefs, and encouraged technology and the digitisation of services such as retail and food services, education, and healthcare. However, unlike them, China committed little to income- and worker-support, opting instead to provide large-scale bridge financing, support for businesses, and, as usual, public investment and residential housing.

China’s economic recovery, though, has been ‘K-shaped’, that is, some sectors bounced back faster than others. Sectors the government has been trying to de-prioritise, such as manufacturing, houses and infrastructure, expanded strongly, but those it wants to upgrade, such as consumer spending and services, lagged behind. Preliminary evidence from the 2020 data show that the share of consumption in GDP, which had risen gently from about 38 per cent a decade ago until 2018, fell back to where it was in 2011.

Meanwhile, the share of non-financial debt in GDP, which the government also wants to stabilise or reduce, rose by about 27 percentage points to 280 per cent of GDP. Judging by the rising incidence of corporate bond defaults and serial problems in many of China’s small to medium-sized banks, bad debt and non-performing loan problems must have worsened during the pandemic and are unlikely to be resolved soon.

Disappointments over consumption, social spending, income inequality, and debt, for example, cannot however be pinned on the pandemic. The roots go back much further. There may well be partial retracement in the early months of 2021 as the cycle continues, but it will be important to put it in perspective. The sluggish consumption share of GDP is about the subdued share of wages and salaries in GDP, a regressive tax system, hidden unemployment, rising income inequality, discrimination against migrant workers, high household savings, and the absence of a robust policy agenda to address these shortcomings. One glaring policy omission has been expansion of the social welfare system. The 3.5 per cent of GDP spent on health and welfare compares unfavourably with the 6 per cent average for other emerging economies, and much higher levels in developed market economies.

Moreover, China recorded a record trade surplus of $535 billion in 2020, up 27 per cent on 2019, and nearly 4 per cent of GDP. Yet, this too flies in the face of the government’s strategy because this ‘win’ was due to rising exports and a contraction in imports, the latter corroborating the weakness of workers’ incomes and consumption. Towards the end of 2020, imports did rise again, and if this continued, China could finally contribute something to global growth.

One of the most important shortcomings to which China, though not uniquely, needs to pay attention in the next few years is the stall in productivity growth. Total factor productivity which is a key measure of efficiency and technical progress, has barely grown since 2010, after rising by almost 3 per cent per year in the prior decade and a half. This should focus attention on domestic factors and poor policy choices that align closely with the big shift towards more authoritarian and controlling governance since 2012.

New year, new initiatives

The CCP’s immediate economic challenge is to ensure the economy is in good shape for its centenary celebrations in July, and it would be a shock if it were not. Notwithstanding reports of new outbreaks of COVID-19 in Hebei Province, surrounding Beijing, and in two north-eastern provinces, the economy looks set to lock in end-2020 momentum, capitalise on favourable year to year comparisons in early 2021 and register about 7 per cent GDP growth this year. The monetary and fiscal authorities will probably be tempted to rein in some of last year’s monetary and fiscal stimulus as conditions permit.

As the year advances though, quarterly growth momentum is likely to revert to a slower trend again as familiar economic headwinds reassert themselves. They may be exacerbated by developments in the foreign sector, as decoupling trends raise business costs and restrict access to key parts and components, sourced abroad.

The government has resolved to try and address the sea-change in the external environment with a new emphasis on ‘dual circulation strategy (DCS)’, expected to figure prominently in the 14th Five Year Plan (2021-25), which will be unveiled in the spring, as well as in other policy measures. Framed as a response to the sharp deterioration in China’s external relations as they affect trade, technology and finance, DCS, which seeks to differentiate domestic from international circulation is cover for a more inward economic focus, emphasising domestic production and innovation; manufacturing, food and services supply chains; consumption; and greater self-sufficiency in science and technology. It is, in effect, Chinese decoupling, including import substitution, by another name.

DCS is still largely rhetoric, and it remains to be seen how the authorities plan to implement it. It is, though, a modern iteration of ‘rebalancing’ for a new, more hostile, external era. The problem is the same, however, namely it requires an economic, social and political transformation and redistribution of resources that is bigger than the party is willing to admit or concede. The party’s emphasis on control and stability maintenance precludes much of the redistributive and reform agenda that would normally be expected to embrace state enterprises, hukou registration, fiscal and local government institutions, income and wealth inequalities, social security, labour markets, and a switch back in incentives from state to private enterprise.


The bottom line is that post-pandemic, productivity is centre-stage and the key is reform. China has acted to reduce financial system risk and improve the way local banking and capital markets work, attract foreign capital, lower business red tape, and encourage innovation. Yet, as I have explained, there are many areas essential to China’s goals in which the impetus of reform has not only been lost but gone backwards.

An important phenomenon that is worth emphasising is the tension between the prime role designated for the state and state institutions and the dynamic and more efficient private sector. While guidelines introduced in 2020 acknowledge that ‘the existence and development of the private sector is long term and inevitable’, they also call for China’s entrepreneurs to be recruited into the party’s ‘united front’, and support and identify politically with the party’s economic and political priorities. The implication, vividly brought to life by the recent experience of Jack Ma, is that those who are politically compliant in business will thrive.

In the speech that triggered Xi Jinping’s cancellation of Ant Financial’s IPO, Ma said tellingly that ‘to innovate without taking risk is to strangle innovation’. He was talking about fintech (financial technology) platforms, but could equally have referred to across-the-board innovation, especially in foundational technologies, which are not China’s greatest strength.

This goes to the heart of China’s challenge in years to come. If the pandemic has taught us anything, it is that while an authoritarian and controlling party-state has shown its capability in managing a public health emergency, it is not so well suited to the longer-term and complex task of sustainable economic development. For this, and to realise self-sufficiency goals, deep reforms are necessary to both the formal and informal institutions (political, legal, academic, media, fiscal, financial, and social) that govern economic and financial behaviour. These should, but seem unlikely to be, the focus of the party.

This article gives the views of the author, and not the position of the China Foresight Forum, LSE IDEAS, nor The London School of Economics and Political Science.

About the author

George Magnus

George Magnus is Research Associate at the China Centre, Oxford University, School of Oriental and African Studies, and a member of the China Foresight Forum. George was the Chief Economist, and then Senior Economic Adviser at UBS Investment Bank from 1995-2016. He had previously worked as the Chief Economist at SG Warburg (1987-1995), and before that at Laurie Milbank/Chase Securities, Bank of America and Lloyds Bank.

Posted In: Economics and Finance