Progress with stability

While promulgating policies to promote economic growth, China should improve policy coordination, bringing new impetus to its economy

Since the United States launched the trade war against China in 2018, the global industry chains have seen widespread decoupling and transfer, coupled no less by the recent pandemic. European countries and the US have made efforts to draw back investment and diversify industry chains. The US' introduction of the Inflation Reduction Act, the European Union's imposition of barriers on China's electric vehicle exports, and Japan's complicity in restricting China's access to technologies for chips and high-end manufacturing all prove the point. In response, China has shifted some of its foreign trade orders to emerging markets such as Southeast Asia, India and Latin America. This kind of the global adjustment of industry chains will still reign in 2024.

Multinationals are relocating their supply chains on a global scale out of market-based choices — whether for better use of resources and potential markets in emerging regions or on the requirements of governments, mainly those of the developed countries. This global transfer may affect China's share in the global trade and the scale of foreign investment. A deficit in direct investment was already showing in China's balance of payments in the third quarter of 2023.

Japan's economy might have some lessons to offer. After the US-Japan trade war in the 1980s, Japan saw a large amount of industrial outflow, which led to economic growth in Southeast Asia and integration of the regional economy. Then, in 1996, it signed free trade agreements with countries including Singapore, Mexico and the Philippines. Since 2000, Japan's share of investment in Europe has increased, which increasingly took the form of capital- and technology-intensive manufacturing rather than traditional manufacturing. The mainstay of overseas enterprises have changed from large enterprises to small and medium-sized ones. The increased diversification of investment entities and investment destinations has ensured a steady increase in the scale of Japan's outbound investment.

Similarly, China is optimizing its economic structure, attracting foreign investment while also increasing its own overseas investment. Its investment in the countries involved in the Belt and Road Initiative is becoming more market-oriented. The latter's contribution will surely have an impact on China's economy. In this regard, GNP will likely play a more significant role along with GDP. As the world's second-largest economy, China's GDP per capita has exceeded $12,000, a number qualifying it for middle-income country status. For its GNP to catch up, China needs to effectively increase the outbound investment of the private sector (enterprises and households) so that its stock of outbound FDI and portfolio investment exceeds that of FDI and portfolio investment in China.

China's economic transformation is also in steady progress. From the onset of 2023, consumption has contributed more significantly to China's GDP growth than investment and net exports. According to the National Bureau of Statistics, China's GDP grew by 5.2 percent year-on-year in the first three quarters. Final consumption expenditure contributed to 94.8 percent of economic growth, driving GDP growth by 4.6 percentage points. Gross capital formation contributed to 22.3 percent of economic growth, driving GDP growth by 1.1 percentage points.

But the economy's transition to more consumption-driven growth is experiencing tail winds, too. On the one hand, the dividends of increased revenue and reduced taxes have paid off in recent years, leaving more space for consumption upgrading. On the other hand, emerging consumer groups and rising urbanization levels are fueling the consumer market. In the longer run, continuously increasing residents' income and expanding consumption capacity is the key to expanding domestic demand.

Echoing these good signs, China's Central Economic Work Conference in December called for implementing the principle of "seeking progress while maintaining stability, promoting stability with progress, and establishing first and excelling later". Market expectations and better communication between the policy and the market will be prioritized. In terms of monetary policy, there will be ample room for Reserve Requirement Ratio cuts in 2024 and greater liquidity in the future economic growth.

Some cautions need to be taken. Authorities need to consider the inversion of interest rate differentials between China and the US when adjusting interest rate. Although China's nominal interest rate is currently lower than that of the US, the level of real interest rates after adjusting for inflation is actually higher. The inversion of nominal interest rates has also put significant pressure on the RMB exchange rate. If the US Federal Reserve cuts interest rates by 80 to 100 basis points in the second half of 2024, more policy space may appear.

In all, it is necessary to strengthen coordination and consistency among different macro policies. At the same time, policymakers need to pay attention to the market's reaction to relevant policies. While promulgating policies to promote economic growth, they must effectively improve the coordination of the policies to bring new impetus to China's economy.

The author is vice-president of the Research Institute at the Bank of China. The author contributed this article to China Watch, a think tank powered by China Daily. The views do not necessarily reflect those of China Daily.

Contact the editor at editor@chinawatch.cn