A Constrained Third Plenum

"Any reforms that we see emerging from the Third Plenum are likely to stop short of hurting the political imperative of building technological self-reliance, including by advancing the development of 'new productive forces.'”

The news is out. The long awaited third plenary session of the 20th Central Committee of the Communist Party of China (aka. the Third Plenum) will be held on 15-18 July, a little bit more than two weeks from now. Held once every five years, the Third Plenum is a top political meeting which has led to the implementation of major structural reforms aimed at unlocking development bottlenecks. Consider, for instance, that it was the 1978 Third Plenum that made it possible for foreign companies to operate in the Chinese market.

There are several issues that China’s top leadership will likely to discuss at the upcoming Third Plenum, e.g.: how to stabilize the property sector; how to help local governments deleverage; how to deal with the consequences of a rapidly aging population, including vis-à-vis increasing pressures on the pension system; how to raise economic productivity in the face of a shrinking workforce and rising technology restrictions; and, of course, how to reinvigorate domestic consumption.

And so, the key question is: given all the structural issues that China is facing, what are the reforms that China’s top leaders will prioritize? While there are already some reports suggesting fiscal, tax and hukou reforms, the only official information we’ve got is the readout of the 27 June Politburo meeting. There are three key takeaways worth noting:

• First is that any measures resulting from this plenary session will look to advance the development vision outlined under ‘Xi Jinping Thought’. Indeed, the readout reiterates the 2035 milestone of this vision, i.e. completing the building of a high-standard socialist market economy across the board. The work reports that Xi Jinping delivered at the 19th and 20th National Party Congresses provide more information about what this means. But it must be said that ‘Xi Jinping Thought’ has continued evolving in line with economic, market and geopolitical realities.
• Second, and related to the above, the CPC’s top leadership will remain in full control of determining China’s development direction. This is why the readout calls to: “uphold the Party Central Committee's authority and its centralized, unified leadership, ensure that it fully exerts its core role in providing overall leadership and coordinating the efforts of all sides, and uphold the Party's leadership throughout the reform.”
• Finally, while the readout recognizes the need to “ensure that reform is for the people and by the people and that its fruits are shared by the people”, it also asserts that, in the pursuit of reform, it is necessary to achieve a balance between development and security.

I see two implications from this – also constraints for reform. Firstly, we should not expect reforms that run against the ongoing centralization of power around the CPC top leadership. For instance, it has been suggested by some reports that local governments will be given more power to increase their revenue so as to address their debt problems. This may very well happen, but I think central authorities may lean towards increasing the amount of revenue that they allocate to them. If local governments are indeed given more power to increase revenue by themselves, central authorities could increase oversight on how local revenue is raised and spent, for instance through the Central Financial and Economic Affairs Commission or the Central Financial Commission, both of which respond to the CPC Central Committee.

The second implication is that, while top Party and government officials are aware about the economic challenges that China is facing, it is very unlikely that we will see a shift in policy direction focused on overcoming the deep-rooted structural issues that are dragging down confidence levels and depressing consumption spending. Indeed, the hard-to-reach balance of supporting short-term growth through supply-side measures and ensuring long-term sustainable growth through structural reforms is being impacted by national security considerations. So, any reforms that we see emerging from the Third Plenum are likely to stop short of hurting the political imperative of building technological self-reliance, including by advancing the development of “new productive forces.”

Now, within these constraints, I do believe there are a lot of measures that the government can implement to strengthen the economy, including by addressing the ongoing property malaise; and to improve the business environment for the private sector, so as to continue attracting investment. But the key challenge, as I explained in a previous message, is that “China has reached a critical tipping point that will determine whether it can successfully transition to a more sustainable growth model or risk falling into the middle-income trap.” It will certainly take time for China to overcome its structural imbalances, and this requires major reform measures. The sooner it starts the better.

Well, this is it for this month. Let me know if you have any comments and/or questions about my views above.

Until next time,

Alfredo Montufar-Helu