China still in fine form as “Grandpa Wen” bows out

Over in China, the two-week annual plenary session of the National People’s Congress is in full swing. The world’s most populous country is in the midst of a rare leadership change, involving the appointment of a new Premier and other top ministers too.

After a decade at the top, Wen Jiabao is bowing out, to be replaced by Li Keqiang. While most foreign coverage of the succession has focused on corruption claims linked to Wen’s family, we should also consider what lies in store for the second-largest economy on earth.

At the heart of the Asian growth miracle, China is obviously crucial to the global economy. With America still on its uppers, and Europe locked in slump, it could be argued that the People’s Republic has already replaced the US as the world’s economic engine room.

Addressing the Great Hall of the People last Tuesday, “Grandpa Wen” announced a growth target of 7.5pc for 2013, the same as in 2012. China out-performed this benchmark last year, expanding 7.8pc in real terms, having grown a whopping 9.3pc in 2011.

Wen insisted, though, that the 2013 outlook is less certain. Achieving 7.5pc growth is “a goal we will have to work hard to attain,” he remarked. In general, economic utterances from China’s leadership have lately been rather downbeat. While 7.5pc growth is something Western nations can only dream of, last year still marked China’s slowest pace of annual expansion since 1999. So spectacular has its modern-day boom been, in fact, that if China did grow by “only” 7.5pc in 2013, that would mark its worst performance since 1990.

Throughout Wen’s Premiership, double-digit growth has been the norm. Many are now predicting a slower expansion over the years to come – even though the International Monetary Fund foresees 8.2pc growth in 2013, above the official target.

The National Development and Reform Commission, China’s state planning agency, last week issued a rare warning. “The foundation for economic turnaround is not firm,” the NDRC remarked. “Consumption is unable to provide a very strong impetus to economic growth, enterprises are less able and willing to invest, and external demand will not change for the better in the near future”.

Although there are undoubtedly blots on China’s economic landscape, it’s worth getting these concerns in perspective. While inflation hit a 10-month high in February, it was still just 3.2pc. That’s lower than the UK average in recent years and rather subdued for an economy growing in the high single-digits. Chinese industrial production during the first two months of the year dipped, yes, but it still expanded by 9.9pc. Retail sales were relatively sluggish during the first two months of 2013, as the NDRC remarked, growing at their slowest rate for January and February combined than in any year since 2004. Such sales, though, were a thumping 12.3pc higher than during the first two months of 2012.

Newly-released PMI survey data suggests that factory output in February may have slowed, but it’s difficult to be sure. The path of the moon dictated that China’s New Year holidays fell last month, so cutting the February factory activity figures, having been in January back in 2012. In GDP terms, though, the economy expanded 7.9pc over final three months of last year, up from 7.4pc the quarter before. That suggests the world’s second-biggest economy is enjoying a certain momentum.

None of this is to say that China’s new leadership doesn’t face immediate and tricky economic dilemmas. Lending surged in January, with the Chinese Central Bank indicating that it wants loan growth of around 13pc during 2013 as a whole. Over a number of years, such easy liquidity, along with massive state-sponsored investment, has helped underpin China’s rapid expansion.

Given a closed capital account, which prevents most people investing abroad, much of that loan growth ends up in China’s notoriously frothy real estate market. During January and February, as lending conditions were loosened, property investment was no less than 23pc up on the same period in 2012. Amid soaring prices, and fears of a sudden reversal, the government has just moved to enforce a 20pc capital gains tax on second-home sales. The result has been a rush to sell before the measures kick in, and a bizarre scramble among couples to get themselves divorced, so former spouses can re-register properties separately in a bid to avoid the tax.

Having presided over an authoritarian regime for the last decade, Wen’s farewell address included what could be interpreted as a touch of liberal posturing. “The trend towards democracy cannot be held back by any force”, the departing Premier volunteered. Be that as it may, it’s clear that, for all the dynamism and drive of China’s burgeoning private sector, the state will continue to play a very significant economic role.

Amid concerns about the on-going Western slump, Chinese state-backed fixed investment was boosted significantly during January and February, up no less than 21.2pc on the same period in 2012. Were domestic growth to slow significantly, the men in the collarless jackets fear that social unrest would likely follow. That’s why the Beijing government, with its mind-blowing $3,000bn stock of foreign exchange reserves, tiny annual deficit and rock-solid balance sheet, is quick to step in – a trend that will no doubt continue under Premier Li.

The most remarkable piece of recent data on China that I’ve seen relates to the growth of exports, growth that has been maintained despite the Western word’s erstwhile failure to recover. During January and February, Chinese exports were a staggering 23.6pc higher than during the same period in 2012. Yet, the government still insists that the export outlook is “grim” (!)

The first point worth making here is that China’s exports are booming due to rampant demand from other emerging markets, generating a huge current account surplus, even though the West is in the doldrums. Chinese exports to other emerging markets were up 25.1pc during 2012, while sales of its goods to “advanced” countries were just 1.9pc higher. A similar pattern is expected when the detailed breakdown of the latest trade data is released in the next few days.

Trade surpluses, though, bring expectations of currency appreciation. Given the impact of that on export competitiveness, a stronger yuan is something that all Chinese leaders want to avoid. Could that be why Beijing’s state-sponsored bean-counters continue to insist that their country’s export outlook is worse that it actually is?

The yuan has been largely flat against the dollar over the last quarter. Given the trade numbers, that strongly suggests the Chinese central bank has been intervening by selling yuan in order to keep the currency from rising. Little wonder, then, that the Chinese government last week issued a fresh warning to Western countries engaging in “quantitative easing”, with Beijing protesting explicitly about “competitive currency depreciation and the negative spillover effects of excessive issuance of the main currencies”.

Throughout this plenary session, the National People’s Congress has issued numerous statements expressing fears that “currency wars” will not only unfairly harm exports from all emerging markets, but also drive up commodity and food prices. Amid this historic leadership change, the Chinese are now scrutinizing the Western world very closely, urging our central bankers and finance ministers to abide to the commitment we made at last month’s Moscow G20 summit to avoid “targeting exchange rates for competitive purposes”.

Premier Wen’s decade at the pinnacle of Chinese power has seen quite a few spats with the West about currency. Premier Li’s rule will bring many, many more.


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