By Laura Luo
At the end of the third Plenary Meeting of the 18th Congress of the Chinese Communist Party, the outlook for the Chinese economy appears, in our view, to be more positive in the medium to long term. Much had been expected of the communiqué that had been issued in the wake of the meeting, perhaps too much, but it did set out a blueprint for far-reaching reforms in China that we believe should help boost more sustainable economic growth in the world’s second- largest economy over the long run.
In our opinion, the most important element of the meeting was the resolve that the Chinese leadership demonstrated to push on with moving China firmly into a more market-oriented approach that is more suited to current needs. Market forces, the Plenum has concluded, should be the driving force of the economy, and the decisive force in resources pricing and allocation, although state-owned enterprises (SOEs) still have an important part to play. An increased role for the market may help, in our view, to improve overall returns.
Although not quite as detailed as many had expected, the communiqué has emphasised the need to build a China that is based upon significant reforms to local government and the judiciary, with our opinion being that the changes will, in the longer-term, strengthen institutions and the rule of law. At the same time, the Chinese economy will continue to shift from investment, such as the massive stimulus programme of 2008 onwards, towards a consumption driven model, an aim that has already been stated by the government.
There was some commentary on planned reforms to ensure independent jurisdiction but this is a long-term project. However, we are encouraged by the aim of introducing improvements to the rule of law. This will not only help to resolve persistent economic, social and legal injustices, but will also better protect property rights in general and minority shareholders’ rights in both state-owned and private companies. This in turn should help to reduce some of the risk premium associated with investing in China.
While SOE reform was not highlighted in the communiqué, we do expect some gradual deregulation and opening up of the market to private firms. The introduction of competition and the opening up of management positions to individuals from outside the government, as well as a proper incentive system for management, may make these firms more efficient and help boost economic growth. In addition, there is the possibility that there may be some merger and acquisition activity and even management buyouts of some SOEs in the longer term once these reforms have been enacted.
Our assessment is that, in the short term, there are still significant challenges for China to overcome. Detailed plans for reform have not yet been unveiled. The reforms that are planned will take time to enact, and it is likely that there may be resistance from local government officials and SOEs, who may be unhappy at the reduction in power.
However, the long-term outlook is perhaps more positive than before, in our view, with China now moving towards a more market-oriented economy, buttressed by a more effective judiciary and local government infrastructure, which should yield continued economic growth.
Growth in the short-term may continue to face some volatility, although we do not expect any drop in the current growth rate. Striking a balance between maintaining steady growth and pushing forward structural reforms will remain a key challenge for China in the foreseeable future. However, with reforms, we do see structural mid to long-term upside in China’s economy. China has chosen to tackle these problems now in order to lay the foundations for long-term growth, which we view as the correct path, rather than simply delaying reforms as had been the case until now.
Laura Luo is investment manager, Baring Hong Kong China fund, Baring Asset Management, Hong Kong
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