China’s mixed economic blessing for the rest of the world

China is nearing a critical point in the re-opening of its economy and society after the abrupt U-turn in Xi Jinping’s response to the pandemic last month, when three years of draconian measures were shelved without notice or, it appears, much preparation.

In less than a fortnight, starting on January 21, China will enter the lunar new year, which traditionally has meant 15 days of celebrations and what was, pre-pandemic, one of the world’s biggest movements of people as workers travelled across the country to spend the holiday period with their families.

After three years of Xi’s harsh “zero COVID” approach to the pandemic, with its lockdowns and restrictions on travel, China expects the number of trips this year to be at least double that of last year, or more than 2 billion trips.

China’s sudden reversal of its zero COVID policy will be a mixed blessing for the global economy. Credit: Andy Wong

That would still be well down on pre-pandemic levels, but it still carries with it obvious risks. It will be occurring even as China has been hit by waves of Omicron infections, with tens of millions of infections daily and estimates that more than a quarter of a billion Chinese were infected last month alone.

The obvious assumption is that the abandonment of the domestic, and international, restrictions and discouragements on travel will ignite an explosion in infections that will stress a health system under-prepared for the sudden shift in COVID policies.

The initial economic impacts of the re-opening last month were severe. Manufacturing and service sector activity fell to their lowest levels since the initial outbreak of the coronavirus in February 2020.

Widespread labour shortages have disrupted activity and supply chains across the economy and that disruption is likely to worsen until at least the end of the holiday period late this month.

It is what happens beyond that point that will determine whether the wave of infections and associated deaths – in a system that is already being overwhelmed – has peaked and China’s economy has bottomed out.

There is some optimism within China and among some western analysts that the abandonment of the futile attempt to suppress the virus in a country with relatively low immunisation rates, particularly among the elderly, and with home-grown vaccines that have proven less effective than the mRNA vaccines adopted widely in the West, will see a rebound in activity.

During the past three years, with COVID raging, rolling lockdowns, closed borders and rising unemployment, Chinese consumers became defensive and cut back heavily on their spending. The hope is that travel and discretionary spending will lift significantly now that the economy has re-opened.

The authorities are also doing what they can to help accelerate growth out of the downturn with more expansive fiscal and monetary policies – and the abandonment of at least another two of Xi’s signature policies.

In August 2020, in an attempt to rein in a debt-driven bubble in China’s property market, Xi introduced a “three red lines” policy that imposed strict limits on developers’ leverage.

The property sector (which accounted for about a third of China’s GDP) crashed along with numerous large developers, leaving apartment buyers that had pre-paid for their properties stranded and local governments that rely on property sales short of revenue.

Despite attempts to support the sector, including providing more funding and liquidity for the more stable developers and concessional funding for prospective buyers, it has remained stalled and stressed.

Now, it seems the authorities are about to erase, or at least weaken, the red lines and allow some of the developers to increase their leverage while giving them more time to get their balance sheets in order.

Similarly, the authorities appear to be backing off a three-year crackdown on China’s big tech companies. Where there had been harsh restrictions on online gaming the authorities have given Tencent Holdings approval to develop new games.

Alibaba was one of the first targets of Beijing’s campaign to clip the wings of a tech sector that had grown immensely powerful during a decade of near-unchecked expansion.Credit: AP

The giant fintech, Ant Group – whose $US34 billion ($49 billion) float was suspended by the authorities two days before its launch in late 2020 – has been told it can proceed with a new capital raising.

The crack down on big tech and property companies was part of a shift in emphasis from the “trickle down” approach of Xi’s predecessors to his more socialist “common prosperity” redistributive policies. Now China is looking to those companies to help regenerate growth.

Another recent shift in policy is in international diplomacy. Gone are the “wolf warriors” and instead China is suddenly presenting itself as a gentler, less threatening state.

The language China’s diplomats are using towards the West, including Australia and the US, has changed markedly. The ban on Australian coal looks likely to be lifted and similar bans on wine, barley and even lobsters may also go, adding substance to the shifts in rhetoric.

Whether the changes in policy and style have been driven by the dramatic surge in COVID infections, or by Xi’s successful confirmation last years as China’s leader for an unprecedented third term, is an open question. The “bold” policy approaches that he is now abandoning might well have been part of his strategy for securing that extension of his leadership.

It matters – and not just for China – how successful or not China is in dealing with the huge spike in COVID infections already being experienced even before the lunar new year period.

If it can quickly bring the rate of infections under control, albeit at a likely heavy cost in lives – there is modelling that estimates up to a million lives could be lost during the re-opening – the economy could bounce back quickly and strongly.

That would be a mixed blessing for the rest of the world. It would help put a floor under global economic activity growth and remove kinks in global supply chains, but it would also add to demand for commodities, particularly energy commodities, lift their prices, feed into inflation and interest rates and complicate Europe’s energy supply equations.

China’s modest growth over the past year has seen its demand for LNG fall significantly, enabling Europe to access gas to replace the pre-war Russian dominance of its supplies. It has also been a factor in lowering oil prices, despite the sanctions on Russian oil.

If China doesn’t manage the re-opening of its economy and the surge in infections well, global growth will be weaker (or the global recession deeper). Demand for commodities will also weaken, along with commodity prices, and global supply chains and the global economy won’t function as well.

There is, therefore, a lot hanging on how the sudden reversals of key Xi policies plays out, for China and the rest of the world. The next few months will either be the low point for China’s health system and economy or the prelude to something quite destabilising and destructive.

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