- What are the likely macro-economic and structural reform policy themes and directions at the National People’s Congress (NPC) that starts next week? We do not expect the discussions to point to a major shift in the macro-economic stance, but the recent pick up in inflation and housing prices and rising concerns among policymakers about financial risks are likely to feature prominently.
- On the structural reform front, we expect the government to reiterate its objectives to rebalance the pattern of growth, improve the industrial structure and to call for further reforms in areas such as the financial and monetary system, boosting household incomes and government spending on health, education and social security, and possibly on more balanced urbanization.
- We do not really expect new concrete reform plans to be announced in areas where little headway has been made so far.
What is meant to happen?
The new 12th National People’s Congress (NPC) will have its first annual session starting March 5. Following tradition it will likely last around two weeks and feature the official appointment of new people in senior government positions, some adjustments in the organizational structure of the government and announcements on economic policy.
The NPC is scheduled to officially appoint candidates for senior government positions put forward by the Communist Party of China, including the President, the Prime Minister and ministers. Since senior party and government leadership positions tend to be held for the maximum of two periods of five years, the NPC completes a once in a decade leadership transition.
Nonetheless, the impact of new leaders on policymaking is easily overestimated, as China has increasingly moved to collective leadership and consensus-based policymaking.
The Premier, the National Development and Research Commission (NDRC) and the Ministry of Finance (MOF) will present work reports. These discuss the government’s view on the economy and lay out in general terms the government’s objectives and plans for economic policy in 2013, following on the discussions during the Central Economic Work Conference (CEWC) of mid-December.
While shying away from major stimulus and pointing up financial risks, the official statement after the CEWC called for a continuation of a growth-supporting macro stance. The official prescriptions remained for fiscal policy to be “proactive” and monetary policy “prudent”, although these labels do not necessarily say a lot about the actual stance.
Since mid-December the downside risks on growth have diminished. Quarter-on-quarter GDP growth in Q4 2012 at a seasonally adjusted annual rate of 9.5% indicates that China has entered 2013 with solid growth momentum, in no small part because of the policy stimulus of last year.
Meanwhile, three developments are affecting the balance of considerations on the macro-economic stance:
- Inflation is on the rise on the back of higher food prices. We think it will not rise excessively, since the global raw commodity price setting is fairly benign and prices of manufactured goods remain subdued. Nonetheless, policymakers are sensitive to higher inflation.
- Housing prices are on the rise again, following renewed enthusiasm on the property market. Reining in house prices remains a key objective of the government and the State Council reaffirmed its tight property policy stance this month, although realistically prices are likely to continue to increase, given underlying pressure from urbanization and rising incomes.
- The last 12 months have seen a rapid expansion in ‘shadow banking.’ This less well supervised and less regulated part of the financial system includes the channeling of wealth management products towards loans, in part by non-bank entities but often with involvement of the major banks. So far, while acknowledging potential risks, several senior policymakers have pointed to the benefits of more non-bank financing. However, concerns are rising among policymakers, including the risk that the shadow banking system will lend more to higher risk firms and local government vehicles that have difficulty getting access to normal bank lending. In addition, the concerns are about the now very rapid pace of expansion.
We think the target for GDP growth is likely to be set at 7.5%, as in 2012, with language on growth likely indicating somewhat more tolerance for slower growth in the context of the government’s objective of rebalancing the pattern of growth.
As an indication that this gradual shift in attitude is taking hold across the government, around one-third of provinces have lowered their growth target for 2013. We expect the target for CPI inflation to be set at 3.5%.
On financial risks, we expect senior policymakers to signal concerns about financial risks and to possibly discuss some measures to strengthen supervision and disclosure requirements in non-bank financing. It is not clear whether there is agreement on a proposed measure to cap banks’ exposure to shadow banking.
We expect further reaffirmation of the relatively tight property policy stance.
At the margin, policymakers’ concerns about financial risks and lending by local government investment platforms may shift the balance somewhat from the traditional emphasis on credit-based stimulus to pure fiscal stimulus, financed by government bond issuance. In line with this, we expect the 2013 budget to include a modest increase in the overall deficit and the government to allow for some more bond issuance on behalf of local governments.
Further, on public finances, we expect some measures to boost household income and consumption, including confirming pension and minimum wage increases, and some measures to “improve the income distribution mechanism”, following the recent State Council document, although these measures are unlikely to have significant macro-economic impact.
There has been a lot of attention on the new leadership’s focus on fighting corruption. However, in our view the macro-economic impact is limited.
Structural issues and reforms
There is wide agreement that China needs further structural reforms to sustain productivity growth and get more growth out of domestic consumption and services. There is no major disagreement among most experts on the reform agenda. Many hope and/or expect that the new leadership will take on the reform agenda more forcefully.
In our view, if that happens, it will only become clear later this year, not in the coming weeks.
One important reform sphere is channeling resources to new and growing sectors, products and services. There has been good progress on the pricing of industrial inputs, including electricity tariffs and coal and fuel product prices, and on financial sector reforms that raise the role of interest rates and that increase competition and access.
Among the key outstanding reforms are:
- setting a level playing field for state-owned enterprises and other companies
- removing entry barriers to several service sectors
- separating regulators from regulated entities
- delineating more clearly the roles of the state and the market
- increasing state-owned enterprises’ dividends and channeling them into the overall fiscal envelope
A second sphere of reform is more balanced urbanization, with migrants being able to take their families with them and live and consume in cities like urban residents, in order to foster more service-oriented and consumption based growth.
Recent years have shown an impressive rise in government spending on health, education and social security. However, we believe the essential outstanding reforms include:
- liberalizing the Hukou system, the household registration system
- reforming intergovernmental fiscal relations, to give local governments the means and incentives to fund public services and build affordable housing for migrants
- pursuing rural land reform to increase the mobility of migrants from rural areas and facilitate land consolidation and mechanization.
The NPC is set to confirm reforms and policies that have already been announced or are in the pipeline. In addition to the fiscal ones mentioned above, these include energy and utility price reform, expanding the value-added tax to the service sector, and some possible further steps on the property tax (although no nationwide rollout).
There are indications that the government may announce some restructuring of the government, with possibly some merger of ministries.
We expect the government to reiterate its objectives to rebalance the pattern of growth towards a larger role for consumption and services, in line with the 12th Five-Year Plan.
However, as noted earlier, several of the key outstanding reforms are technically complicated and face political economy obstacles. In general, we expect more progress in those areas where there has been progress in recent years, and not so much in areas without much progress.
For instance, in the financial area, building on earlier steps, we expect further reforms on interest liberalization, making monetary policy more interest-based and controlled opening of the capital account.
There may be more concrete announcements than before on policies needed to ensure more balanced urbanization by expanding the provision of public services and affordable housing to migrants to enable them to fully urbanize. This would be in line with the emphasis put on this by Li Keqiang, the likely new Prime Minister, who will be responsible for economic policy.
There are few signs of progress in difficult areas such as setting a level playing field for state-owned enterprises and other companies, removing entry barriers to several service sectors, separating regulators from regulated entities, delineating more clearly the roles of the State and the market, and channeling state-owned enterprises’ dividends to the overall fiscal envelope.
We expect to have a better understanding of the reform directions of the new leadership at the time of the third plenum of the Communist Party of China, which is likely in October this year.
About the Author
This article is excerpted from “Top View: Asia,” a report by Royal Bank of Scotland and affiliated companies that was published on 1 March 2013. It has been re-edited for conciseness and clarity.