China’s Covid pivot to drive economic rebound

China on Wednesday announced a 10-point program of substantially further easing its Covid prevention and control measures, as Asia Times had predicted in a November 29 exclusive. The new guidelines drawn up by the State Council Covid task force were published on the National Health Commission’s website.

Asia Times wrote in the November 29 report, “Events have prodded China to speed up the schedule for a shift of Covid focus to treatment rather than prevention, according to sources close to the State Council leadership. The sources have reaffirmed to Asia Times that decisions reached just prior to the 20^th Congress of the Communist Party of China to relax Covid controls have not changed. Indeed, preparations for the change have been underway since early October.”

Under the new rules, asymptomatic and mildly symptomatic patients nationwide are allowed to undergo home quarantine, close contacts can also isolate at home and people traveling between regions will no longer have their test results and digital health codes checked. Further, mass PCR testing is abolished, and officials are no longer permitted to impose lockdowns arbitrarily on large urban areas.

China’s focus has shifted from suppression of a pandemic to treatment of an endemic disease like influenza. The government’s response, hastened by nationwide protests led by the country’s student elite, will be broad-ranging, including a shift in economic focus towards health care.

Healthcare stocks led a world-beating snapback in Hong Kong stock prices, with the health delivery arms of major technology and insurance companies well above year-earlier levels. This points to the direction of China’s economic policy: China now spends only 5.3% of its GDP on health care, about the same level as Japan’s in 1960.

Over the next decade health spending will rise to over 10% of GDP, following Japan’s earlier experience, supported by private as well as public service providers. We estimate that health care will add 0.5 to 0.75 percentage points a year to China’s economic growth.

China’s economy is stalled due to Covid lockdowns, and the pivot in Covid policy is key to the government’s plans to restart growth. The State Council reportedly will target 5% growth for 2023, a considerable challenge given the poor export outlook. Exports accounted for most of China’s GDP growth between the second half of 2021 and the first half of 2022, but weakening world economic conditions have slowed exports. November exports in US dollars came in 8.7% lower than a year earlier, far worse than the consensus estimates. In Chinese yuan, exports rose only 0.9%. The CNY figure is more relevant for economic growth.

Shown below are data seasonally adjusted with the TRAMO algorithm on the Eviews econometrics platform.

The decline in exports in USD terms occurred across all major markets.

When the Central Economic Work Conference (CEWC) meets next week under Xi Jinping’s new leadership team, though, the most important item on the agenda will be managing the consequences of Covid rules’ easing. China will need more hospital beds, more intensive care units, more medical equipment including ventilators, and above all more vaccine doses. It remains unclear whether the government will undertake a Manhattan Project to produce mRNA vaccines under license from BionTech or import vaccines from foreign manufacturers.

Another dimension of government stimulus will apply to the property sector. The strongest Chinese developer, Country Garden, tripled in price in Hong Kong from about HK$1 to $HK3 during the past month, far outstripping the performance of the tech sector.

For the first time in a year, the dollar bonds of Chinese property developers have shown a significant recovery. Bloomberg’s Index of China high yield bonds denominated in dollars, mainly property issuers, fell from a dollar price of 120 in July of 2021 to only 20 in October. Since then it has doubled to around 40 – hardly a recovery, but an important bounce. On November 21, the People’s Bank of China met with large commercial banks and authorized them to lend dollars from their overseas branches to the offshore subsidiaries of China’s property developers, an activity it had previously discouraged.

The Chinese government spent two years reducing the availability of credit to the property sector. This had the dual goal of deflating the debt bubbles that had accumulated in the property market in numerous localities – deflating the speculative mood that more than doubled housing prices between 2009 and 2019 – and making housing more affordable for younger Chinese.

In essence the government’s housing policy as an intergenerational wealth transfer: Older Chinese who bought homes in the past are sitting on substantial capital gains, but younger Chinese find the cost of housing out of reach in many parts of the country.

What has changed, of course, is Covid. The combined impact of Covid lockdowns and the property market bust has flattened consumer spending. Retail sales were down 0.5% year-on-year as of October, which implies a real decline of about 3%. Until the third quarter, extraordinary export growth sustained China’s GDP, but the global economic slowdown has taken its toll on export orders. The Caixin Export Orders PMI is decidedly in the negative.

The Chinese authorities have already instructed the large state banks to make an additional $1.28 trillion yuan available to developers.

Reviving the economy will take precedence over the government’s desire for long-term structural reform. In its initial approach to the property developers’ problems, Chinese regulators set a high bar for collateral quality. These standards already have been relaxed. Otherwise, Chinese regulators will round up the usual suspects by making concessions for down payments by first time home buyers, relaxing mortgages rates and so forth.

We expect that digital infrastructure will be an important component of the stimulus. During the week ended December 7, Telecom Services led gains in the onshore CSI 300 Index, with a gain of 9.13%, vs an overall index gain of 3.11%. Consumer Staples came in second with a 7.29% gain, followed by Consumer Discretionary with a gain of 5.30%. China United Network gained 20% on the week, following earlier strong gains on the announcement of a digital infrastructure partnership with Tencent.