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George Magnus

February 16th, 2022

China’s Weakening Expectations

0 comments | 12 shares

Estimated reading time: 10 minutes

George Magnus

February 16th, 2022

China’s Weakening Expectations

0 comments | 12 shares

Estimated reading time: 10 minutes

  • China’s bounce back from the COVID-19 shock was robust, helping Beijing to impress its governance prowess on citizens at home and abroad. In many respects though, its best laid plans went awry.
  • In 2021, the property market keeled over, and growth fell to 4 per cent by the year’s end, triggering concern among policy makers. Internationally, China has run increasingly into pushback and resistance.
  • Omicron casts a potential shadow over China, but property markets, population ageing, and poor productivity comprise more enduring drags. The ‘common prosperity’ campaign is likely to prove a governance own-goal.

At this year’s 20th Congress of the Chinese Communist Party (CCP), Xi Jinping expects to cement his own future as a ‘core leader’ alongside Mao, and China’s as it ‘regains’ its rightful place in the world as a prominent if not dominant power. The innocuous sounding ‘Community of Shared Future for Mankind’ slogan actually provides the cover for the CCP to re-shape global institutions and governance to conform to its own values and standards. Xi added the slogan ‘common prosperity’ last year, kicking off a campaign to mobilise citizens behind the party’s political strategy to deliver both material and spiritual prosperity.

The CCP can certainly not be accused of lacking ambition. Yet, having ambition and having the capacity to realise it should not be conflated. The phrase ‘weakening expectations’ comes from the characterisation of China’s economic development at the start of the most recent Central Economic Work Conference report, but certainly applies here in ways the authors won’t have intended.

I considered this in ‘China’s bittersweet recovery’ a year ago here, as China sprang out of the COVID-19 slump before anyone else. The prospects for the economy looked and proved to be promising. It grew by 8 per cent in 2021 but momentum was pedestrian, and by end year, annual growth was officially only 4 per cent. Slower growth resumed in the context of growing structural imbalances and systemic headwinds. Looking at China a year on, how did things pan out, and what have we learned that’s new?

Preening and pushback on the global stage

China’s economic recovery from the pandemic certainly emboldened its political leaders to claim COVID management bragging rights, and the confidence with which to dish out criticism to geopolitical rivals. They embraced so-called ‘wolf warrior’ diplomacy, and sought to demonstrate to emerging and developing nations (beyond the likes of North Korea, Russia, Pakistan and Iran) the virtues of China’s alternative development and governance model.

China’s foreign policy operates intensively through commerce and finance. In 2021, it was one of the first countries to ratify the Regional Comprehensive Economic Partnership (RCEP) trade pact. More controversially, it applied to join the much more sophisticated and extensive Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) a day after the AUKUS announcement under which the US and UK agreed to supply nuclear-powered submarine capability to Australia.

China registered a trade surplus of around 4 per cent of GDP for the second consecutive year and the highest overall balance of payments surplus since 2015. It bought none of the extra goods promised under the Phase One trade deal negotiated with America in 2019, and, in the face of tense international relations, widening export controls and investment screening, and an array of technology, financial and other restrictions and sanctions, China was able to prove a receptive host to willing US finance capital. It laid out a red carpet for selected foreign financial firms such as JP Morgan, Blackrock, Allianz and Goldman Sachs to bring US dollars and expertise into China and help sustain China’s international capital market links.

In spite of these developments, the pushback against China internationally has been growing as others react to its truculent behaviour, notably in relation to Xinjiang, Hong Kong, Taiwan and the South China Sea. Its hostile approach in disputes, for example with Australia, India and Japan, have also helped to strengthen security and other ties among the Quad nations. In and beyond Asia, fears about and competition with China are on the rise. Its illiberal and controversial policy initiatives and practices are causing discomfort with China’s statecraft, remarkably among many emerging and developing nations, which are otherwise inclined to maintain good economic and trade relations with China.

Sanctions and blocking regulations or restrictions affecting trade, technology, finance and investment, involving the United States, Canada, Australia, the UK and other nations have been building for much of the last 3 years, but have certainly become edgier since 2021. This includes the European Union, where, as a result of tit-for-tat Xinjiang-related sanctions, the long-awaited Comprehensive Agreement on Investment was in effect abandoned.

Pandemic, Property, Population

As the last country with a zero-tolerance approach to COVID, China persists with major international travel restrictions and quarantines, mass testing, intrusive technological and human surveillance, and extensive lockdowns of residential neighbourhoods. Given the spread of Omicron to China, the consequences of Zero-COVID, the questionable efficacy of China’s vaccines, and the low level of immunity in the population, it has been suggested that China’s population may now be the most vulnerable on Earth.

Draconian anti-COVID measures, including in port areas and coastal towns, have had a negative effect on supply chains and global transportation costs, interfered in the normal conduct of international business, and exacerbated the dichotomy in the economy between production and exports, and sluggish consumption and services, including hospitality, transportation and leisure.

If Omicron becomes more widespread in China, it could torpedo Zero-COVID, causing significant economic disruption, and political embarrassment. If, as seems likely, the government doubles down on the strategy to contain it, the economic costs could be even more considerable. Somehow, it needs to accommodate endemic infection, but most likely not until after the 20th Party Congress.

China’s property market finally tipped over in the second half of the year as financial stress and bankruptcy descended on China’s second biggest property developer, Evergrande, and several other peers. The government has tried to remain resolute by refusing to bail out affected firms but it is also sensitive to the risk that the real estate market, said to account for between 23-29 per cent of annual GDP growth and valued at over 4 times GDP, poses to economic stability and already faltering employment.

It has allowed credit growth to pick up again, cut interest rates and banks’ reserve requirements, relaxed mortgage restrictions and balance sheet constraints for property developers so they can borrow more, arranged for state enterprises to step in and buy up assets from bankrupt developers, and approved more infrastructure spending.

These measures may help temporarily, but the outlook for real estate is poor. Developers’ debt burdens, over-investment and high vacancy rates will all have to befall. There is weak effective demand outside Tier 1 cities (Beijing, Chongqing, Guangzhou, Shanghai, Tianjin), and household debt is high at about 120 per cent of disposable income. The cohort of typical first-time buyers, aged between 25-39, is predicted to fall by about a quarter over the next two decades, and local governments, which have a land sale monopoly and have traditionally supported the property market, are cashflow- and debt-constrained. A protracted decline in real estate prices would exacerbate the negative hit to the economy, jobs and the banking sector.

The 2010-2020 population census revealed that China’s population had grown by just 0.53 per cent per year, that the total fertility rate had dropped further than thought to 1.3 children per woman, and that the over 60s in China numbered 264 million, or 18.7 per cent of the population. Partly in response to the census, the government abandoned restrictions on family size, and is encouraging people to have more children, almost as a patriotic duty. Some demographers in China think these numbers gloss over faster ageing and an already declining population.

China’s demographics are problematic because the country lacks viable coping mechanisms, that is, there is no immigration, labour force participation (for women especially) is falling, and productivity growth has stalled. A further worry is low educational attainment – or quality of human capital. The census estimates that a mere 15 per cent of people have college degrees, and it is estimated that only about 30 per cent of the labour force has high school qualifications or better. Low educational attainment, largely a function of poor schooling and cognitive learning problems particularly in rural communities, is helping to sustain both huge inequality, itself a growth-depressant, and also the growth of low-paid, low-skill work, and repression of wages and salaries.

Common prosperity

If these challenges were not enough, Xi Jinping has added another. The new big focus on ‘common prosperity’ is ostensibly about the party’s attempt to address the adverse outcomes of the single-minded emphasis on economic growth over the last 40 years. These include large economic and sectoral imbalances, major income group and provincial inequalities, business and financial excess, and collusive and corrupt relations between government entities and companies, especially tech firms. Left unaddressed, the government fears they could trigger instability.

Common prosperity, then, is about a new governance and development philosophy to deliver both material prosperity – less inequality, higher taxes on ‘unreasonable’ incomes and higher transfers – and spiritual prosperity in which citizens will carry out ‘Xi Jinping Thought’ to realise party objectives, and reject (foreign) individualistic, cultural values. It is not about welfare as we would understand it.

A central feature of the campaign is to end the ‘disorderly expansion of capital’ – the excesses of private firms and entrepreneurs – and regulate capital according to a traffic light system of encouragement, restriction, and refusal. A significant recalibration of industrial policy is underway in which the primacy of state enterprises will be strengthened further, and private capital will be aligned with the interests of the party, or in effect, be brought to heel.

A blizzard of regulation aimed at private firms, notably those offering modern technology, finance and data platforms, was unleashed last year, and is likely to continue, if less frenetically.  Regulations were also extended to education, housing and healthcare – all of which provide services with costs which many middle-class Chinese struggle with – and logistics, delivery and other companies renowned for the ‘gig economy’ status of their workers.

The regulatory clampdown joins other initiatives to get private firms and entrepreneurs to fulfil social and moral goals set by political leaders. Party committees close to or in operational management have been encouraged to become more involved in staffing, recruitment, supervision and compliance, and a much more politicised business environment has been established spanning new antitrust, cybersecurity, data privacy and security laws, and institutions. Leading firms such as Alibaba and Tencent, moreover, are among many now expected to give something back to society by making ‘donations’ to party programmes in what is a form of coercive corporate philanthropy.

Private firms are rightly hailed as the drivers of China’s long-term success, and generate the bulk of output, jobs, tax revenues, and innovation. Yet, they now face very different and politicised business prospects, a phenomenon not lost on foreign multinationals in China either.


China’s bounce back from the COVID shock was early and robust, and served as a platform for Beijing to impress upon citizens at home and abroad the superiority of its approach to pandemic disease management, and to governance in general. Yet the broader economic context was not and proved not to be as favourable. Policymakers recently framed China’s development status describing ‘demand contraction, supply turbulence and weakening expectations’. The priority for this year is above all ‘stability’, which allows for some economic stimulus and is principally aimed at avoiding spillovers from the property sector and safeguarding jobs for a while at least.

The evolving Omicron variant casts a potential shadow over China’s economic prospects but there are more enduring issues. Internationally, China is facing rising pushback and both voluntary and imposed disengagement from important areas of economics and commerce. At home, adjusting to over-indebtedness, the absence of an offset to property doldrums, and poor demographics and productivity growth will demand close attention.

Common prosperity is supposed to build a superior socialist society in which innovation and productivity define a confident and modern China. It might. Yet it is more likely to be a governance own-goal in which the contradiction between the political control the party craves, and the incentives for innovation and productivity it needs cannot be resolved under current political settings.

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.

The blog image, “Beijing’s morning” is licensed under CC BY-ND 2.0.

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

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