"Household deleveraging heightens China's vulnerability to US-driven export volatility"

Chen Shengdong says private enterprise is the essence of Chinese-style modernisation. Why China plans to strengthen the state-owned economy.

Aug 30, 2024

Our briefing on critical economic and financial developments in China as of Friday, 30 August, 2024:

Renmin U. professor Zhang Yu (张瑜) says household deleveraging has exacerbated China’s vulnerability to export volatility, particularly as dictated by Washington’. She does not anticipate a decision on fiscal measures from Beijing, however, until after the US presidential election.
China plans to strengthen the state-owned enterprise sector to become “large and powerful,” with an especial focus on tech innovation and Keynesian macroeconomic correction.
Beijing steps up support for private capital and enterprise in August, following an ongoing campaign to boost the private economy in 2024. The Chinese central government wants private investors to become active in more areas.
Taikang Life Insurance CEO Chen Dongsheng argues that private enterprise has been the “backbone” of Chinese-style modernisation ever since the launch of the reform and opening era in the late 1970s. He highlights its importance vis-a-vis China’s ongoing innovation drive to decouple technologically from the US.

A leading economist in China has highlighted the country's heightened vulnerability to any US-driven export volatility in the wake of widespread household deleveraging that has cratered domestic demand.

Zhang Yu (张瑜), a researcher from the International Monetary Research Institute of Renmin University in Beijing, observes that net household assets in China are currently in a phase of contraction, as individual citizens deleverage in response to the country's ongoing property slump.

This will make it difficult for Chinese enterprises to achieve profit growth on the back of domestic demand.

"Because of the negative growth in net household assets and household deleveraging and balance sheet contraction, it will be difficult for household deposits to convert into enterprise profits via payments," Zhang writes.

"The prospects for enterprises are not favourable."

According to Zhang, central government policy makers have also proved reluctant to implement adequate fiscal stimulus measures, while exports have continued to exceed expectations, serving as a renewed critical support for the Chinese economy.

This makes China vulnerable, however, to any increase in export volatility that is likely to arise due to worsening tensions with the US, particularly in a presidential election year.

"A major source of uncertainty is the US election, and whether or not Trump will recover the office of president," Zhang writes.

"If he does, then it's likely that he will launch a new round of additional tariffs against China."

For this reason, she expects the Chinese government to hold off on major fiscal policy decisions until after a new US president is chosen.

"Prior to the US presidential selection, Chinese companies and the government will adopt a wait-and-see attitude with regard to whether or not to rush for exports, and whether or not to apply vigorous policies.

"When the dust settles from the US election in the fourth quarter, it will have removed a risk factor, and this could be one of the key factors triggering renewed policy games."

Five key points for understanding China's agenda to strengthen the state-owned enterprise sector

The historic 20th 3rd Plenary Session of the Communist Party held in July called for "driving state-owned capital and state-owned enterprises (SOEs) to become powerful, excellent and large."

In addition to "driving optimisation and structural adjustment of the state-owned economy," the Session outlined plans to "strengthen core functions and raise core competitiveness," as well as "confirm the focal areas and directions for investment by state-owned capital."

Wu Gangliang (吴刚梁), a researcher with the China Enterprise Reform and Development Research Association (中国企业改革与发展研究会), highlights five key points for understanding Beijing's upcoming round of SOE reforms.

1. Strategic coordination.

Wu points to confusion surrounding the regulation and control of the state-owned sector as a key problem.

While all SOEs are nominally under the remit of the State-owned Assets Supervision and Administration Commission (SASAC) of the State Council, they also come under the control of other central authorities.

For example, state-owned financial investments are under the remit of the Ministry of Finance, while those of a cultural nature are supposed to be controlled by the Ministry of Propaganda.

According to Wu, this has led to policy conflict, and a "lack of strategic coordination in reform and regulatory policy, increasing the cost of execution."

Consequently, he envisages a strengthening of top-down policy design and coordination.

2. Strengthening of core functions - tech innovation and market correction

Since the Central Economic Work Conference held at the end of last year, "strengthening core functions" has taking precedence ahead of "raising core competitiveness” for SOEs.

Wu says that while the Third Plenum highlighted the need to "better employ market mechanisms," it also called for “supplementing market deficiencies,” with the “state-owned economy undoubtedly serving as an effective tool in this regard.”

Other core functions for SOEs will include science and tech innovation, industry control and security support - referred to as the "three usages" (三个作用) .

3. Upholding core duties and businesses

Wu says restructuring of the SOE sector will involve ensuring that different entities are more closely focused on just one to three core operations, with punitive measures outlined for any untoward deviation.

Ongoing reforms have focused on the removal of non-core operations and low-efficiency assets.

According to Wu, Beijing will also unveil new regulations that set the key areas and directions for investment by state-owned capital, including which areas are "encouraged," "restricted" or "forbidden."

4."Two company category" reforms

According to Wu, a key measure for the reform of the state-owned sector has been the establishment of two categories of companies - state-owned capital investment companies, and state-owned operations companies.

"The establishment of the two categories makes it possible to more effectively smooth out the relationship between state-owned capital and state-owned enterprises, and is of benefit to driving the reform of the mixed-ownership system," Wu writes.

5. Reform of natural monopoly sectors

Wu says Beijing will permit state-owned monopolies in the segments of those sectors where they naturally arise or where economies of scale and network effects are present, including energy and rail.

In certain segments, however, such as production and sales, it will permit the introduction of competitive measures and open up entry to private enterprise.

Beijing steps up support for private capital and private enterprise in August

Su Jian (苏剑), chair of the National Economy Research Centre of Peking University, point out that that China's central government has embarked upon a campaign to strengthen the private economy and private investment in 2024.

"Since last year, policies to support the development and strengthening of the private economy have continually come into effect," Su said.

"This year, a series of policy measures have further unleashed benefits for expediting the development and strengthening of the private economy, which has major significance for strengthening confidence."

Shanghai Securities Journal reports that Beijing has stepped up these efforts August, in the immediate wake of the Communist Party's landmark 20th 3rd Plenary Session on key economic issues.

On 16 August, the National Development Reform Commission (NDRC) and the National Financial Regulatory Administration (NFRA) jointly led the release of a notice on expediting the growth of private investment, and providing protections for access to factors of production.

"These policies focus on key areas including capital and factors of production for private investment projects," said Shi Ying (石颖), an NDRC research official.

"[They] will drive the resolution of the problems of private investors being unwilling and unable to invest."

A week later on 23 August, NDRC chair Zheng Shanjie (郑栅洁) convened a meeting with private entrepreneurs, including senior executives from Dover Group, Thalys, Hengtong, Transsion Holdings and Kuaishou Technology.

NDRC officials said the meeting was for the purpose of "deeply understanding the views and impressions of entrepreneurs with regard to current economic conditions.”

The end goal of the meeting was to "drive the resolution of difficult problems, further operate an excellent development environment, and strengthen the confidence in growth of private enterprise."

The spirit of private enterprise lies at the core of Chinese-style modernisation: Chen Dongsheng

The head of one of China's biggest insurance companies has highlighted the indispensable role of private enterprise and foreign capital in the country's modernisation drive since the start of the reform and opening era in the 1970's.

Chen Dongsheng (陈东升), founder and CEO of Beijing-based Taikang Life Insurance, says private enterprise played a pivotal role in economic modernisation over the past four decades.

"The fruit of China's economic progress were driven by the four forces of the government, state-owned enterprises, private enterprise and foreign capital," Chen writes in an online opinion piece that coincides with the release of his book "Strategy Decides Everything" (战略决定一切).

"Out of the three entrepreneurial forces, it's the private economy that has grown the fastest and drawn the most attention.

"The private economy has ushered in a wave of industrial development as well as technological innovation and progress."

For this reason, Dong considers private entrepreneurship to be indispensable to the "Chinese-style modernisation" that the Communist Party elevated to the level of core policy theme at the recent 20th 3rd Plenary Session.

"When discussing the implementation of modernisation, the most important and indispensable thing is still entrepreneurs and the spirit of entrepreneurship," Dong writes.

"Entrepreneurs are the backbone force for advancing Chinese-style modernisation and national revival."