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China’s 2025 Growth Plans Compatible with Easing System Risks

China’s more modest growth ambitions under the 14th Five-Year Plan (FYP) for 2021-2025 are consistent with reducing systemic risks across the economy, says Fitch Ratings. Nonetheless, policymakers will face multiple challenges over the next five years, including how to reduce existing financial system strains and promote a transition to a more domestic-driven growth strategy.

Previews of the 14th FYP in recent weeks, ahead of its March 2021 release, have indicated that it will set a goal of China becoming a “high-income” country by 2025. The World Bank’s current gross national income per capita threshold for high-income countries is USD12,536, though it is uncertain whether China will apply this definition. We estimate China’s per capita income at about USD10,500 for 2020.

Fitch previously estimated China’s sustainable real growth rate at 5.5% for 2019-2023. This would be more than sufficient to meet the World Bank’s threshold by 2025, and is broadly in line with media reports speculating the final FYP may include an accompanying 5% annual growth target, down from targets of 6%-6.5% in recent years.

A less ambitious near-term growth objective bodes well for the authorities’ stated goal of striking a balance between economic development and systemic-risk prevention. Efforts to meet a prior target of doubling real GDP between 2010 and 2020 contributed to rapid credit growth and the build-up of financial sector risks. This year proved to be a further set-back in this regard, as credit conditions were loosened to cushion the coronavirus shock. Fitch nevertheless expects leverage to stabilise in 2021, as stimulus is withdrawn amid China’s ongoing economic recovery.

In addition to domestic challenges, China will continue to face external uncertainties. Fitch expects the administration of US President-elect Joe Biden to seek to avoid further escalations in US-China trade frictions, and pursue a more predictable and multilateral strategy when disputes do arise. Nevertheless, tensions between the US and China will endure over issues such as human rights, national security and freedom of navigation. Sustained geopolitical uncertainty will further incentivise multinational firms to pursue manufacturing diversification strategies, which may dampen China’s export prospects.

Partly as a result, policymakers have reaccentuated the importance of domestic demand as a driver of growth in the 14th FYP under a newly branded “dual circulation” strategy. This has been coupled with longstanding themes of high-quality development and innovation.

Although efforts to make growth more reliant on domestic demand are not new, the government’s promotion of investment in high-tech areas, like semiconductors, under the dual circulation strategy also aims to enhance China’s self-reliance in sectors where dependence on overseas technology remains high. Related policy goals also include strengthening the country’s supply chains, infrastructure, digital-economy capabilities, and other emerging industries.

Fitch believes that productivity-enhancing modernisation across these sectors should be achievable, but in industries like semiconductors, large investments alone may be insufficient to allow Chinese companies to narrow the technological gap with overseas competitors.

Beyond the immediate FYP, officials have also signalled they believe it is possible to double the level of GDP (or per capita income) by 2035. This would require sustaining real GDP growth of about 4.7% for the next 15 years, a formidable challenge. Demographics, for example, will act as a dampener on potential growth, as China’s working age population is already in decline.

If doubling GDP by 2035 becomes a hard policy target rather than a notional ambition, Fitch believes it may entail a reversion to more credit-intensive policy stimulus. This could exacerbate system-wide financial risks, and put downward pressure on China’s credit profile.
Source: Fitch Ratings

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