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China’s New Five-Year Plan Is a Disappointment

As domestic problems mount, Beijing’s planners are lowering expectations.

By , the China director at Greenmantle, a macroeconomic and geopolitical advisory firm, and , the director of Indo-Pacific at Greenmantle.
Chinese President Xi Jinping attends the closing session of the Chinese People’s Political Consultative Conference in Beijing on March 10.
Chinese President Xi Jinping attends the closing session of the Chinese People’s Political Consultative Conference in Beijing on March 10. Noel Celis/AFP/Getty Images

Last week, China began its biggest annual political gathering, the so-called Two Sessions (lianghui). The early policy documents and speeches to come out of the Beijing gathering have surprised many investors and political analysts with their caution and lack of ambition. The era of striving for sky-high growth rates is clearly over. Rather, Chinese GDP growth is likely to underperform expectations this year and beyond. With sober-minded, fiscally conservative planners now firmly in control of policy, Beijing is turning its attention to debt reduction and a daunting agenda of structural reform.

One of the first signs of the shift came when Chinese Premier Li Keqiang’s annual Government Work Report issued a strikingly conservative GDP target of more than 6 percent. Many financial analysts, following the International Monetary Fund’s projections, had expected 8 percent or more.

This comes after the nearly unprecedented decision last year to set no growth target at all, using the COVID-19 pandemic as an excuse. Leading up to this year’s Two Sessions, there were heated debates in Beijing about whether to return to the old targeting approach. Some economists argued that targets helped motivate local officials and provide an impetus for economic activity. Others advocated dropping them entirely and focusing on other metrics like employment.

Last week, China began its biggest annual political gathering, the so-called Two Sessions (lianghui). The early policy documents and speeches to come out of the Beijing gathering have surprised many investors and political analysts with their caution and lack of ambition. The era of striving for sky-high growth rates is clearly over. Rather, Chinese GDP growth is likely to underperform expectations this year and beyond. With sober-minded, fiscally conservative planners now firmly in control of policy, Beijing is turning its attention to debt reduction and a daunting agenda of structural reform.

One of the first signs of the shift came when Chinese Premier Li Keqiang’s annual Government Work Report issued a strikingly conservative GDP target of more than 6 percent. Many financial analysts, following the International Monetary Fund’s projections, had expected 8 percent or more.

This comes after the nearly unprecedented decision last year to set no growth target at all, using the COVID-19 pandemic as an excuse. Leading up to this year’s Two Sessions, there were heated debates in Beijing about whether to return to the old targeting approach. Some economists argued that targets helped motivate local officials and provide an impetus for economic activity. Others advocated dropping them entirely and focusing on other metrics like employment.

In the end, Beijing compromised. In announcing his conservative GDP goal, Li noted that it would “enable [China] to devote full energy to promoting reform, innovation, and high-quality development.” He also set targets for reducing the central government’s budget deficit from 3.6 percent of GDP in 2020 to around 3.2 percent of GDP in 2021 and announced plans to lower the quota on local government special bond issuance, the crucial mechanism for financing infrastructure development. Beijing has also axed 1 trillion yuan ($140 billion) in special treasury bonds issued last year in response to COVID-19. As U.S. President Joe Biden and his administration double down on pandemic fiscal stimulus, China is rapidly phasing it out.

Another major sign of Beijing’s shifting strategy came on Friday, the second day of the Two Sessions, when the government unveiled another major document: the draft 14th Five-Year Plan, which will be the strategic blueprint for all aspects of national development through 2025. Previous plans have included explicit growth targets. This one did not. The omissions confirmed that the so-called “fiscal hawks,” who want to tackle China’s ballooning public and private debt levels, had won the internal policy debate.

The two most prominent hawks are China’s economic czar, Vice Premier Liu He, and the head of the China Banking and Insurance Regulatory Commission, Guo Shuqing. The “doves,” including top officials at the National Development and Reform Commission (NDRC), were less concerned about China’s ballooning debt level, now equal to 280 percent of GDP. They wanted a GDP target as high as 8 percent, which would surely be fueled by yet more infrastructure spending.

The Government Work Report and draft five-year plan also revealed that Beijing is struggling to deal with some long-standing structural issues. Inequalities between provinces and regions continue to grow, as the northern rust belt provinces stagnate. Compared with previous years, this year’s Government Work Report dedicated much more attention to these domestic imbalances. Beijing also acknowledged its “low fertility trap”—marked by a 15 percent decline in births since last year. (The birth rate has fallen to the lowest level in seven decades, despite a spate of measures to encourage families to have second children.) Underlying structural trends like these are all deeply problematic for Beijing: a declining marriage rate, rising divorce rates, and financial disincentives to having more than one child. Li pledged to “work to achieve an appropriate birth rate,” but he provided few details and no original ideas.

Chinese planners are also dragging their feet on much-needed reforms to the household registration (hukou) system. Hukou is the Chinese government’s tool for managing the internal movement by its 1.4 billion population. The system governs the country’s hundreds of millions of migrant workers—about 40 percent of the urban labor force—who move from rural areas to cities in search of work. The latest five-year plan pledges new reforms that would effectively lift most hukou requirements for rural migrant workers in cities with populations under 5 million. (The most desirable megacities, such as Beijing, Shanghai, and Shenzhen, would retain their points-based system for eligibility.)

If anything, these reforms are likely to create more headaches for officials and increase economic inequality. Educated and wealthier migrants will gain hukou in richer cities with better public services. Poorer migrants will be stuck in smaller cities with tighter public finances and lower-quality social services. Some rural workers don’t want to swap their rural hukou for urban hukou at all, as it would mean losing their valuable rural land holdings.

The Two Sessions was also a disappointment on environmental issues. State planners committed to ambitious anti-pollution targets, but they did not promise to cap total energy consumption and even left the door open to increased coal output. An NDRC report even seemed to contradict Li’s own, stating that China would “systematically increase [its] ability to ensure the supply of coal” and focus on expanding “clean coal,” as well as nuclear and renewables.

In contrast to the boastful “wolf-warrior diplomacy”—a more aggressive and offensive foreign-policy stance designed to tap domestic jingoism—that characterized much of Chinese public communications last year, the Government Work Report and 14th Five-Year Plan reveal that China believes it still badly needs foreign capital and know-how and that it has fallen short on its own in-house research and development efforts.

In particular, China has fallen far behind on its own targets to become self-sufficient in semiconductor manufacturing. The well-known “Made in China 2025” report aimed for China to produce 70 percent of its annual chip consumption domestically by 2025. But last year, the country produced just 6 percent of what it used. The Chinese Commerce Ministry has announced new subsidies to attract foreign-funded R&D centers while cutting domestic R&D spending targets to 7 percent (down from a previous five-year average of 11.8 percent).

Such subsidies are probably not enough to woo foreign chipmakers. These firms are wary of Chinese industrial espionage and are under pressure from Washington to limit technology transfers to Beijing. Although China has been steadily improving its intellectual property protection regime, with new amendments and intellectual property courts effective as of this June, its latest laws protecting foreign investors remain inadequate and leave foreign firms that have their technology stolen with little recourse.

Meanwhile, China may have crushed the COVID-19 pandemic at home, but the specter of the virus will hang over the Chinese economy for longer than in the United States. This is partly because China lags badly in its vaccine rollout. By the end of February, only 4 percent of China’s 1.4 billion population had received at least one dose. Zhong Nanshan of the National Health Commission, China’s most trusted public health expert, recently told a Brookings Institution forum that the government wants 40 percent of the population to have received at least one dose by July. But Chinese vaccines are less efficacious than Western ones, and few Chinese citizens have acquired immunity to COVID-19 through natural infection. So the country will need much higher vaccination levels than the United States and Europe to get the same protective effect. Beijing acknowledged last week that it is unlikely to relax border controls this year and that herd immunity is unlikely to be reached until mid-2022.

For years, Chinese planners have fixated on GDP metrics, assuming that the country could grow its way out of its domestic problems rather than tackling them with painful reforms. China has surprised the world before, responding quickly and effectively to the global financial crisis in 2008-09 and then eventually to COVID-19 last year. However, China’s “growth-first” era is ending.

The Chinese economy has steady hands at the helm for now. While top policymakers are aware of the challenges that lie ahead, they have yet to demonstrate the vision to respond adequately and may be betting too much on a demand-side recovery. With consumption still the weakest link in the economy, growth may be more sluggish than even officials expect beyond 2021. This may ultimately empower the fiscal doves and spell the return of debt-driven growth.

Alice Han is the China director at Greenmantle, a macroeconomic and geopolitical advisory firm.

Eyck Freymann is the author of One Belt One Road: Chinese Power Meets the World and the director of Indo-Pacific at Greenmantle, a macroeconomic advisory firm.

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