OECD Economic Outlook, Volume 2023 Issue 2

China

Economic growth will rebound only moderately to 5.2% in 2023 and then slow to 4.7% and 4.2% in 2024 and 2025 respectively. Consumption growth will likely remain subdued due to increased precautionary savings, gloomier prospects for employment creation and heightened uncertainty. The ongoing adjustment in the real estate sector continues with falling investment and continued financial stress. Relaxation of some demand-side restrictions is expected to stabilise sales, aided by lower mortgage costs. Excessive indebtedness of local investment vehicles constrains the delivery of urban infrastructure projects. Exports will remain weak amid sluggish global growth. Consumer price inflation will remain very low, though sustained deflation is unlikely. A deeper correction in the real estate market is a key risk. Trade sanctions may disrupt production at some high-tech manufacturers.

Monetary policy should remain supportive, with further interest rate and reserve requirement cuts as needed. The widening of the interest differential with other economies has led to capital outflows and a currency depreciation. Fiscal policy could provide more support for the debt resolution of financing vehicles, in addition to the planned shift in the composition of spending towards infrastructure and urban village reconstruction. Deductions and exemptions of taxes and charges for targeted groups will provide some support. The anticipated stabilisation of the housing sector will bring about a rebound of budgetary revenues at the local level.

Economic activity has rebounded moderately in 2023

Growth bottomed out in the third quarter, following a moderate recovery after the re-opening and weaknesses in the first half of the year. Property investment is still decreasing at a steady rate and weighing on growth. Infrastructure investment has been growing at a steady, but low, rate due to financing constraints, and manufacturing investment is being held back by lower capacity utilisation rates. Consumption growth is stable but is being constrained by relatively high unemployment as a large number of graduate students entered the labour market this year. Weak demand in some key export markets is weighing on export growth, but a very limited recovery of tourism imports is helping to maintain the current account surplus.

China: Economic growth and investment indicators

1.Year-to-date year-on-year growth.

Source: CEIC.

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China: Demand, output and prices

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China: Interest rates and housing indicators

1.Year-to-date year-on-year growth.

Source: CEIC.

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The Chinese economy was spared from inflation stemming from soaring global energy and food prices as its food self-sufficiency rate is high and it has substituted some crude oil imports with discounted oil from Russia. More recently, falling energy prices have supported energy imports. Productivity improvements and innovation help to keep overall inflation low, even if food prices have increased. High unemployment, subdued wage growth and low demand are also contributing to low inflation.

Monetary and fiscal policy will support demand

Monetary policy continues to support the recovery and ensure adequate liquidity. The benchmark lending rate and the ratio of reserves to be kept at the central bank have been cut multiple times. The effective mortgage lending rate is being driven down by the new mortgage rate adjustment mechanism introduced in early 2023, which allows local authorities to remove the mortgage interest floor in cities where new housing prices decrease for three consecutive months. More recent measures, such as facilitating the renegotiation of rates on outstanding loans, also work in that direction. This reduces households’ debt service burden. The realised savings on debt payments are expected at least partly to be channelled to consumption. More stringent implementation of credit quotas for presold housing, lower provident fund lending rates for first-time buyers, the broadening of the definition of first-time buyers and other measures will help stabilise the property sector and allow adjustments to continue in an orderly manner.

Fiscal policy will continue to provide support through tax cuts and exemptions for small and micro enterprises and accelerated deductions of research costs. Special treasury bonds of CNY 1 trillion, or around 0.8% of GDP, will support growth in 2024. The issuance of refinancing bonds by several local entities is expected to reduce the pressure on heavily indebted local investment vehicles and help implementation of planned infrastructure projects. While this may provide short-term relief, the problem of implicit debt at the local government level needs to be addressed effectively and in a timely manner. Urban village redevelopment will be a focus of the coming infrastructure drive, with urban infrastructure provision in large swathes of land in the middle of cities and improvements of intra-city connections. This will boost productivity, upgrade the residence status of the inhabitants of those areas and clarify land rights, with potential improvements in living standards.

Growth is returning to a gradually slowing trend path

Following a moderate rebound after the re-opening, the Chinese economy will return to its gradually slowing path, with 4.7% growth in 2024 and 4.2% in 2025, due to unfavourable demographics and slowing trend productivity growth. The on-going adjustment in the real estate sector will continue to weigh on residential investment and related consumption. Infrastructure investment will pick up, as the debt and financing issues of investment vehicles at the local level are resolved, due to high needs arising from the green transition, urban village redevelopment, and other environmental and social targets. Consumption is expected to remain sluggish given weak confidence and the lack of reforms to strengthen the social safety net. Tourism imports may not recover to pre-COVID levels. By moving up the value chain, China will reduce its reliance on imported parts and components and thus ,even amid weak foreign demand, the current account surplus will remain high.

Overall risks are tilted to the downside. Potential further defaults may disrupt orderly adjustment in the real estate sector. Excessive relaxation of demand-side restrictions in the property sector may result in stronger growth but also a further build-up of imbalances and more painful adjustment subsequently. Delays in addressing implicit local government debt may hold back infrastructure investment. Sanctions on frontier technologies might lead to reshuffling of global value chains, disrupting production in high-tech intensive and import-dependent domestic manufacturing sectors in the short run, and reducing productivity growth in the longer term.

Structural reforms are needed to sustain growth

Monetary and fiscal policy should continue to support growth in the near term, but avoid adding to financial risks. Amid unfavourable demographic prospects and labour shortages, high youth unemployment rates need to be brought down by better matching training options and skills needed in the market as well as better managing expectations with regards to job choices. To rebalance the economy towards consumption and reduce savings, a stronger social safety net is needed. Unemployment insurance coverage should be extended to all, and pensions should provide at least a minimum standard of living to all eligible people. Furthermore, the list of treatments and medicines covered by health insurance should be widened so that health costs do not push people into poverty. Reforms to create a level playing field and enhance competition would help the private sector recovery. Stronger consumer protection could also boost competitive pressures. Administrative monopolies, often with exclusive rights to provide certain goods and services, should be dismantled. Recent measures aimed at creating a single domestic market are a welcome step. Meeting the ambitious climate targets requires a timely phase out of coal-fired power plants.