China needs to loosen tight grip over pandemic for economy to grow

Covid-19 pandemic has in the last few weeks ravaged Chinese economy as large swathes of the country entered a painfully strict lockdown, with tens of millions of residents trapped at home, factories closing and logistics and port activity snarling up.

Unfortunately, this is happening amid an already deep property market downturn, with property sales and funding in sharp decline and developers labouring under heavy debt burdens. In March, retail sales fell 3.5 percent in annual terms—the worst reading since the height of the first wave of the pandemic in early 2020—with other indicators painting a similarly grim picture.

As such, while GDP growth held up surprisingly well in Q1, analysts such as ‘Focus Economics see a notable slowdown from Q2, with risks tilted clearly to the downside. These analysts including those from ‘Reuters’ and ‘Financial Times’ of London posit that the only way out going forward is for growth to markedly undershoot Chinese government’s 5.5 percent target.

However, some steps have been taken to minimise the pain. For instance, several large companies, such as Tesla, have been able to reopen factories in recent days under “closed-loop” systems, with workers eating and sleeping on site. The Central Bank has trimmed banks’ reserve requirement ratios to boost credit availability. And the government is using the familiar playbook of urging local governments to push forward with infrastructure investment.

Nevertheless, the impact of these measures remains uncertain in the face of multiplicity of problems. For instance, many small-holder companies lack the ability to feed and house workers on site, monetary easing has so far been moderate, and the financing shortfalls faced by local governments could limit their abilities to boost spending on infrastructure.

Therefore, a more durable economic turnaround would require Chinese government to loosen its iron grip over the pandemic. For now, leader Xi Jinping appears determined to stay the course and maintain the country’s zero-tolerance approach. Partly as a result, the yuan has tanked since mid-April as foreign investors took flight. A similar exodus among expats—which was already underway before the latest lockdowns—is accelerating according to media reports. This loss of foreign talent is a risk not only to short-term activity, but also to the country’s longer-term economic prospects, given the still-large productivity gap between China and the West.

Without a course correction by the government, the only way is down for Chinese GDP forecasts in the months ahead.

A forecast by Focus Economics predicts likely Chinese supply disruptions would filter through to higher global inflation in the coming months, while soft Chinese demand could also weigh on other countries’ external sectors.

On the potential for further stimulus, Ho Woei Chen, economist at United Overseas Bank, said: “We maintain our 2022 GDP growth forecast for China at 4.9%. The strength of an economic rebound in the second half of the year will depend on how soon China can bring the COVID-19 under control and ease its draconian COVID-19 measures. As the current outlook is far below the official growth target of ‘around 5.5%’ for 2022, there is likely further room for policy support including cuts to the interest rate and easing of its real estate measures to boost confidence.”

Analysts say that goal will become harder to achieve unless China eases its zero-COVID policy, which it has shown few signs of doing.

Indeed, stability is vital for 2022, with a twice-a-decade meeting of the ruling Communist Party in the autumn expected to cement President Xi Jinping’s leadership for a precedent-breaking third term.

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“We need to step up policy support for the economy to offset the impact from the COVID, but the effectiveness of macro policies has been diluted by the COVID control policy as supply chains are broken,” Xu Hongcai, deputy director of the economic policy commission at the state-backed China Association of Policy Science, told Reuters.

China’s success in containing domestic coronavirus cases over the past two years has been marred by its worst outbreaks since the pandemic began. The new infections have thrown major cities into strict lockdowns and raised questions about the sustainability of its strict zero-COVID policies.

Societe Generale estimates that provinces experiencing significant mobility restrictions account for 80 percent of gross domestic product (GDP).

The Politburo, a top decision-making body of the ruling Communist Party, is widely expected to hold a meeting this week and investors are looking for clues on policy.

Worries about capital outflows and inflation could limit the scope for monetary support, with aggressive policy tightening by the Federal Reserve seen luring funds back to higher yielding US assets.

In 2008 and 2009, China relied on 4 trillion Yuan ($605.82bn) in spending to shield the economy from the global financial crisis, creating a mountain of debt.

With returns on traditional projects like highways, railways and airports now much lower, China has been trying to expand new infrastructure focused on 5G, artificial intelligence and data.

China has set an annual budget deficit target at around 2.8 percent of GDP for 2022, along with an annual quota of 3.65 trillion Yuan for local special bonds to fund infrastructure investment.

From the forgoing one thing is very obvious and that is; the international economic panorama is only going to get tougher as the days go by.

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