While much of the world is benefiting from ultra-supportive fiscal and monetary policy in 2021, the same cannot be said for China. Having splurged during the COVID-19 crisis in 2020 – when non-financial sector debt rose by a staggering 26.6% of GDP, according to the BIS – authorities have now decided to tighten their belts.
They are doing so in two ways: broad guidance to slow investment spending and bank lending; and sector-specific rules to reduce credit growth, notably among property developers.
On top of this, Chinese policymakers have been actively intervening across several sectors, from closer regulation of tech giant Ant Group, to concern about data loss at ride-hailing firm Didi Chuxing*, to the entire private education sector and even the social impact of video gaming. The breadth and impact of such intervention appears to be a systemic policy to address perceived threats and weaknesses.
The combined impact has been a significant underperformance of Chinese assets in 2021 – both equity markets, as well as high-profile corporate bonds, such as those issued by the massive Chinese property developer Evergrande*. In addition, economic data have shown the impact, with July activity particularly disappointing.
Indeed, it was probably this weakness, combined with the economic restrictions associated with the spread of the Delta variant, that encouraged policymakers to ease their foot off the debt brake with a reserve rate requirement cut for banks in July.
But they do not appear to want to reverse course entirely. The pace of debt growth was clearly unsustainable in 2020; much of this liquidity eventually finds its way into assets like the property market, sending prices too high for the average buyer. There also seems to be a focus on commodity prices, which have historically risen in line with Chinese debt growth. This time around, China is pushing back against such escalating input costs.
In addition, policymakers will be keen to create room for much-needed investment in the coming years related to their climate target of reaching peak emissions before 2030, and carbon neutrality before 2060. It is far from clear how this policy will impact the country’s long-term growth outlook, but we believe focusing on more productive debt and containing asset bubbles is clearly a sensible policy in the meantime.
In our view, it is probable that current policy interventions will allow the world’s second-largest economy to grow faster and more sustainably than would otherwise be the case over the longer term. But looking at the next few months, it is even clearer that policymakers are happy to accept volatility and weaker markets as a near-term price to pay. Indeed, such is the importance of the property sector for China’s savings, banking system and public confidence that investors need to monitor carefully the fallout from Evergrande’s restructuring. There is a risk of permanent damage and a more systemically global impact should events spiral out of control.
*For illustrative purposes only. The above information does not constitute a recommendation to buy or sell any security.