Why a change in tone from the Politburo makes us more constructive on China

We have been pessimistic on Chinese growth prospects for the better part of the past year (see here, here and here).

This was based on the observation that property is at the core of Chinese economic troubles and that property busts last for years, even under the best of circumstances. On top of that, the Chinese policy response seemed inadequate, in our view.

For starters, the Chinese leadership appeared to show little concern about economic growth and was more focused on national security. As a result, it chose to look past demand weakness and instead targeted its policies at strategic sectors, mostly through window guidance to banks. We believe this supply-side focus added to the overcapacity in industry and exacerbated deflationary pressures.

Property policies were also not supportive of growth, in our view. The government opted not to help developers complete unfinished projects and, thereby, restore confidence in the delivery of pre-sold houses. They also chose not to address the massive housing overhang convincingly.

Change is in the air

During the recent Politburo meeting we detected a change in tone. The Politburo urged local governments, property developers and financial institutions to ensure the delivery of pre-sold homes. This issue had not been mentioned at high-level policy meetings for over a year.

Policymakers also stated that they would study measures to reduce the housing overhang. While these are only statements of intent so far, the leadership has now homed in on what we see as the two key obstacles to stabilising the property market.

This shift in focus comes on top of other policy measures that on their own did not make us more confident but taken together could start to make a difference.

Here we have in mind the issuance of an ultra-long central government bond equivalent to 0.8% of GDP. China’s fiscal policy is far from transparent. Nonetheless, Goldman Sachs¹ and JP Morgan² estimate that this year’s fiscal thrust could be slightly positive – a reversal from last year’s sizeable deficit contraction.

The announcement of a ‘cash for clunkers’ trade-in programme for cars and appliances also goes in the right direction. While small in magnitude – Morgan Stanley³ estimates the car part to amount to 0.1% of GDP – it shows that the leadership acknowledges the weakness of domestic demand.

To be sure, significant risks remain. Policymakers’ actions could fall short of expectations. The leadership also remains committed to supply-side policies which could continue to weigh on prices. However, on May 1 after the Politburo meeting, we have become a bit more constructive and upgraded our growth forecast to 4.8%, from 4.2% previously.

On the investment side, we are no longer tactically underweight Chinese equities. To add to our Chinese equity exposure, we would need to see more evidence this change in the macroeconomic outlook will translate into better shareholder returns. Historically, that has not always been the case. So, we would have to see measures that underpin a sustained growth in earnings per share.

Sources

1. Goldman Sachs, Beijing’s balancing act between infrastructure stimulus and LGFV deleveraging.

2. JP Morgan, 2024 NPC takeaways, 5 March 2024.

3. Morgan Stanley, Car trade-in program better than expected, 26 April 2024.