Executive Summary:

  • China offered no GDP growth target for 2020, reducing stimulus expectations and opening the door to weaker growth
  • U.S.-China tensions are rising, and although decoupling appears on the horizon Chinese officials confirmed their commitment to the Phase One trade deal
  • The announcement around implementing national security legislation in Hong Kong sparked an immediate market reaction. Tensions are likely set to rise but the U.S. response is still an open question.

Investment implications:

The lack of a GDP target is seen as confirmation that Beijing will continue with limited stimulus creating some near downside risk to growth expectations. That said, if it becomes a durable shift away from macroeconomic targets, growth will become more sustainable which improves the long-term trajectory. Although U.S.-China tensions continue to hit new low points, the near term macroeconomic implications should be limited. 

Three Takeaways from China’s NPC

The National People's Congress (NPC), China’s most important annual policy meeting, convened last Friday after being postponed for two months due to COVID-19. The meeting unveiled a range of policy decisions with potential economic and geopolitical implications. In today’s note, we would like to share with you our three key takeaways from the meeting.

1. Policy announcements were less dovish than expected

One of the biggest developments from the meeting is the announcement that China will not have a growth target for 2020. This is the first time policymakers drop a pre-set numerical target for annual growth. While the number itself is generally less important, having a target generally provides a good indication of the policy support in the coming year. Having an ambitious numerical target would have been a clear indication that policymakers are looking to unleash a larger fiscal and monetary stimulus. By offering no target, it seems to signal continuation of the conservative, prudent stance.

Further confirmation of this policy direction was provided when President Xi indicated a desire to avoid strong stimulus in group discussions on Friday—stating the government’s focus should not be on the growth rate but instead on the "six stabilities" and "six guarantees", which focus on employment, living standards, and poverty alleviation, among other goals. According to reports, the pursuit of these goals will indirectly contribute to GDP, but GDP growth should not be the primary focus of government policies. These comments seem important, as they both explain past policy decisions and will likely have future policy implications. While fairly opaque to outside observers, President Xi’s views on growth have likely affected the behavior of government officials and could explain the relative lack of aggressive stimulus measures relative to China’s past stimulus—and relative to that of many other economies. Given many businesses base their spending decisions off of expectations of future government stimulus, we may see businesses and individuals become more cautious with their plans. However, this shift also has positive long-term implications. There will probably be less pressure on data reporting -- and a reduction of the pressure to achieve a high growth target could reduce micromanagement of the economy and the distortions that ensue from stimulus policies.

While the suggested size of the stimulus is somewhat disappointing relative to past stimulus rounds and expectations, the actual fiscal stimulus could be slightly stronger than headline numbers suggest. As announced by the government work report, the official on-budget deficit ratio will increase significantly by 0.8 percentage point to “at least” 3.6% in 2020. But the effective deficit, which takes into account a wider array of spending and is a much more meaningful indicator of government support, will increase even more, by 1.6 percentage points to around 6.5% this year, according to the budget report released by the Ministry of Finance over the weekend.

Premier Li’s report also emphasized that government spending must be disciplined to avoid waste, calling for a stop to all “non-essential, non-urgent” spending. Policymakers appear to be heeding lessons learned from past stimulus rounds and are hoping to prevent wasteful spending, the pilfering of funds, and a further unsustainable increase in leverage. 

On the monetary side, the wording was vague except for the statement that “money and credit) growth will be significantly above last year’s levels.” It’s unclear how much additional monetary support we could see for the rest of the year, as credit growth in the past few months has already been largely above prior year levels. We see that as a signal that monetary policy will remain moderately accommodative, but will likely refrain from unleashing a large amount of credit into the economic system.   

The bottom line: the policy measures announced were either in line or below expectations—monetary policy will be moderately supportive, while fiscal spending will be disciplined and targeted to maintain employment. On the upside, it indicates China’s perseverance on addressing structural challenges instead of relying on “unproductive” spending on infrastructure and real estate — which increase growth but further build up debt — as we have seen in previous rounds of large stimulus.

2. The phase one deal is safe, at least for now

Recent weeks saw a resurgence in tensions between the world’s two largest economies. The U.S. made a series of moves targeting a range of issues, including the passage of a new bill that could potentially see the delisting of Chinese firms from U.S. stock exchanges and the banning federal pension funds from investing in Chinese securities, as well as new restrictions on Huawei. These actions have cast doubt over the “phase one” trade deal and whether we could see the comeback of tit-for-tat tariffs.

There are legitimate risks to the phase one deal, not limited to the fact that China will not be able to meet the specific purchase commitments as a result of the COVID crisis. Nonetheless, Chinese leaders used the NPC to re-emphasize their commitment to the deal. This is a positive signal that Beijing is not yet considering pulling out from the deal as a countermeasure to the recent U.S. moves. The phase-one deal appears to be acting as a safety net for economic relations between the two countries, keeping them from restarting a tariff war as the global economy is struggling to recover amidst the pandemic. It could also temper U.S. measures towards China given the importance of China’s $200bn purchase commitment — ranging from farm goods to manufactured products — for the U.S. economy right now. While overall relations will likely continue to deteriorate, the two sides may refrain from measures beyond narrow attacks with limited immediate macroeconomic impact.

3. Hong Kong could become a hotspot amid rising U.S.-China tensions

A draft resolution of the Hong Kong Security Law was released at the meeting, which will be reviewed and approved in the following week, paving the way for changes to Hong Kong's Basic Law (the city’s mini-constitution). The market reaction was swift with the Hang Seng Index selling off -5.6% and the Hong Kong dollar experiencing one of its largest daily moves over recent years. This could make Hong Kong a focal point amid escalating U.S.-China tensions. So far, the White House and U.S. Congress were both swift to respond, including threats of sanctions on Chinese officials and entities.

An area of focus is whether Hong Kong could lose its special status granted under the 1992 Hong Kong Policy Act, which allows for Hong Kong to have a different set of bilateral policies with the US, including on trade and investment. According to the Hong Kong Human Rights and Democracy bill passed last year, Congress will recertify Hong Kong’s special trade status annually, and this year’s review may take place shortly after the NPC. Risks of punitive measures from Washington, including a reversal of Hong Kong’s status, or other legislative actions, have increased. However, we note that the US could be wary of directly harming Hong Kong or US interests in Hong Kong. Should the status be reversed, the immediate economic impact could be limited given that direct bilateral trade between Hong Kong and the U.S. is minimal. However, this could have a long-term impact on Hong Kong’s role as a global financial center and point of access for investment in and out of mainland China.