null Why Is China Backtracking on its Policies?
Confucius, perhaps the greatest Chinese thinker in history, is said to have once said "life is really simple, but we insist on makin it complicate". From the Confucian idea of simplicity stemmed the profound debate in the Chinese Communist Party after the death of Mao Zedong, since at that time it seemed clear that economic growth was simple if a series of market reforms were put In practice (the economic failure of the Soviet Union was already so obvious). Out of this debate emerged the need for China to Implement market reforms that led It to become a wealthy and prosperous nation.
Deng Xiaoping famously said that “it doesn't matter if a cat is black or white so long as it catches mice.” Reforms undertaken in the late 1970s led to unprecedented economic growth. China became the world's second largest economy in current dollars, and was able to virtually eradicate extreme poverty, which afflicted the majority of China's population. Today China may boast a per capita income of around $10,000, in line with Bulgaria. However, I have been critical with the fact that despite the model of economic development rolled out by between 1980 and 2010 was both spectacular and sustainable, the global financial crisis forced the country to replace such a growth model by a less recurrent one. Thus, investment in China soared to dangerous ratios (more than 40% of GDP; Spain reached 30% before the real estate crisis), its real estate-construction sector heated up (it accounted fro 28% of GDP, similar to Spain's before the real estate crisis) and, above all, and dependence on debt to finance growth was increasingly high. Thus, whereas the total debt ratio (state, companies, households) must remain stable as a percentage of GDP to be considered sustainable, in China it has risen from 1.4 times to 2.8 times.
Moreover, since the Covid crisis began, the Xi Jinping-led Government has pursued three key policies. First: covid zero-tolerance. Second: limits on the financial leverage of real estate developers (it was correctly stated that financial excesses could pose the biggest threat to China). Third: the ‘common prosperity’ policy, which in practice meant major crackdowns on large technological companies. Under the auspices of economic growth and these policies, the twentieth congress of the Chinese Communist Party will be held in autumn 2022, at which Xi Jinping plans to change the traditional pattern of alternating leadership encouraged by his predecessor Deng Xiao Ping, and to secure his grip on power indefinitely.
However, events have moved in a different direction. First, the Chinese real estate bubble began to burst last August. Since then, home prices have been falling, and real estate activity is declining sharply (house sales are already down 21%). Second, the omicron variant has spread across some areas in China, and the Chinese vaccine appears to be much less effective than Western jabs developed by messenger RNA. And third, as a result of the common prosperity policy, the four largest Chinese technology companies are worth a trillion (Spanish) dollars less today than before its implementation, while the US Nasdaq has risen by a trillion dollars in that period. The consequence is that China's technological power is at jeopardy, something that may affect its future growth via enhanced productivity. As its workforce is already shrinking, technology will be key to boost productivity if the country aspires to maintain decent growth rates going forward and challenging the US.
Against this background, it is not surprising that the Communist Party is reversing the policies outlined above. The intensity of the real estate crisis is such that many financial limits imposed by the reform have been eased, and the central bank has proceeded to inject liquidity into the markets to fight it. These measures are likely to delay an irreversible adjustment process, as happened in Spain.
On the other hand, Omicron’s spreading first to Hong Kong and later to the rest of the country has made the zero-tolerance policy unrealistic, since closing factories would take its toll on production in times of sluggish economic growth. That is why on 19 March China announced that it was changing (that is, abandoning) its zero tolerance policy.
Finally, the interrelationship between technology and future growth, which could be threatened by the ‘common prosperity" policy, has taken centre stage to the Party's debate. Not surprisingly, with the stock market at six-year lows, Xi Jinping's top economic adviser, Liu He, has announced that the Government will make important decisions about the future of the economy. We should expect a the ‘common prosperity’ policy to be reversed. In fact, in the recent State of the Nation address, Premier Li Keqiang only mentioned common prosperity once.
Politics is the art of the possible. And all that is possible is simple, when the economy goes through difficult times, so that the room for political manoeuvre.