Managing The Dragon's 2021 Predictions

As China returns to work after the Spring Festival, it’s time for the Managing The Dragon blog to finalize its predictions for the Year of the Ox. While economic data in January and February may provide some hints as to the way in which the year will unfold, the timing of the lunar New Year holiday varies from year to year, making it difficult to extrapolate from the experience of the first two months.

In past years, it has often been difficult to come up with five predictions where a consensus does not already exist. In this COVID-19 environment, however, a consensus is hard to come by and the basics are very much in doubt. What is the state of the Chinese economy? Will the country’s currency remain strong? What are the prospects for vehicle sales, which have now declined for three years in a row? Will sales of New Energy Vehicles (“NEVs”) resume their growth? Will the Trump tariffs be repealed? Providing predictions on these topics is particularly important in 2021 since travel has been restricted, making it difficult for many to form their own conclusions based on what is happening on the ground. 

Prediction #1: China is in a V-shaped recovery, and the country’s Gross Domestic Product (“GDP”) in U.S. dollar terms will exceed the IMF estimate of 8.1 percent in 2021. 

Due to the Spring Festival holiday and the outbreak of COVID-19, China had a disastrous first quarter in 2020, with GDP contracting by 6.8 percent. However, the country was back at work by the end of March, and, with the exception of a few minor outbreaks, business interruptions due to the pandemic were few and far between for the rest of the year. As business activity resumed and the government began its stimulus measures, China’s GDP grew by 3.2 percent in Q2; 4.9 percent in Q3; and 6.5 percent in Q4. For the entire year, the country’s economy grew by 2.3 percent, making it the only major economy to report growth in 2020.

For 2021, The International Monetary Fund (“IMF”) projects that China's economy will grow by 8.1 percent. MTD believes that growth in U.S. dollar terms will exceed the IMF estimate for several reasons. First, the Chinese yuan will be at least seven percent stronger in 2021 than it was in 2020, increasing the country’s GDP in dollar terms. Secondly, Chinese factories are exceptionally busy these days making up for shortages caused by production shutdowns in other countries, and this situation is likely to continue for at least part of 2021. Finally, exceptionally strong business and government investment in 2020, as evidenced by heavy-duty truck sales, will benefit the economy in 2021. 

Prediction #2: The yuan will trade between ￥6.2 and ￥6.75 to $1.0 in 2021.

Since May, 2008, the exchange rate between the Chinese yuan and the U.S. dollar has been relatively stable, trading in the ￥6.0 to ￥7.0 to $1.0 range for most of the past thirteen years. The yuan is a controlled currency, so when it weakens and trades above ￥7.0 to $1.0, the Chinese government has taken steps to support the currency. Conversely, when the yuan strengthens and approaches the ￥6.0 to $1.0 level, the Chinese government has also intervened. While China is often criticized for managing its currency to maintain the country’s export competitiveness, the fact is that outflows of the yuan are tightly managed, keeping the currency relatively strong. If Chinese citizens were free to invest as much of their money overseas as they would like, there would likely be massive outflows of the yuan, and the currency would likely be substantially weaker. 

For the first seven months of 2020, the yuan traded slightly over ￥7.0 to $1.0, but since August, the currency has strengthened steadily and is now trading at about ￥6.5 to $1.0. In 2021, MTD believes that China’s currency will be strong throughout the year, and will trade in the range of ￥6.2 to ￥6.75 to $1.0. As the only major economy to grow last year, China looks attractive compared to other major economies, and the country’s exports are exceeding expectations. Moreover, the dollar will likely come under pressure as U.S. government borrowings balloon and the Federal Reserve maintains an easy money policy. However, the yuan will face resistance when it nears ￥6.2 to $1.0 and will not strengthen beyond that level.   

Prediction #3: Vehicle sales in China will grow by at least 4.0 percent or more in 2021, breaking three straight years of sales declines.

In 2016, sales of trucks, buses, and cars in China grew by 13.6 percent to just over 28.0 million units. However, it’s been mostly downhill since then in the world’s largest auto market. After registering a modest 3.0 percent increase in 2017, vehicle sales declined by 2.8 percent in 2018 and 8.2 percent in 2019. Last year, China’s auto industry overcame a disastrous first quarter, but still finished the year down by 1.9 percent.

Caught by the double whammy of Spring Festival and the outbreak of COVID-19, vehicle sales declined by 18.7 percent in January; 79.1 percent in February; and 43.3 percent in March. As China returned to work, vehicle sales picked up and registered a 4.4 percent increase in April. In every month since, vehicle sales have grown by double digits, including a stunning 16.8 percent increase in September. Although the timing of the Spring Festival holiday makes vehicle sales during the first two months of any year unreliable data points on which to base predictions, retail sales of passenger cars surged by 25.7 percent in January, offering some hope that a potentially strong year for autos may be in the making. 

According to the China Association of Automobile Manufacturers (“CAAM”), vehicle sales in China will exceed 26 million units in 2021, up 4 percent for the year. Xu Haidong, a CAAM Deputy General Manager, forecasted car and light-truck deliveries to rise 7.5 percent to 21.7 million, while new commercial vehicle demand will slip by 10 percent to 4.6 million. 

In 2020, sales of commercial vehicles increased by 18.7 percent, led by a strong showing for heavy-duty trucks, which increased by an unprecedented 37.9 percent to 1.6 million units. Infrastructure spending and increased sales due to the replacement of trucks that cannot meet certain emission standards positively impacted sales last year, and are unlikely to have a similar impact in 2021.

Prediction #4:  In 2021, sales of NEVs, which include electric vehicles (“EVs”), will grow by 40 percent, registering their first double-digit year of growth since 2018. 

From 2015 to 2018, sales of NEVs in China quadrupled to just over 1.2 million units and China became the global leader in EVs. As Beijing began to adjust its overall policies with respect to subsidies for EV purchases, sales fell by four percent in 2019. While China’s policies continued to be a drag in 2020, new models introduced by Tesla, Nio, Xpeng, and others enabled sales of NEVs to resume their growth, increasing by 7.5 percent to 1.37 million.

A stronger auto industry in China, a plethora of new EV models, and China’s decision to extend EV subsidies by two years will cause EV sales to surge in China.  CAAM’s Xu Haidong predicts that China's EV sales might reach 1.8 million units in 2021, up 40 percent from a year earlier. 

Prediction #5: The tariffs imposed by President Trump on goods from China as part of the Trade War will be repealed by the Biden Administration in the second half of 2021.

There is nothing that China wants more from the Biden Administration than for the Trump tariffs to be repealed. In 2020, China exported over $2.6 trillion of goods, $435 billion of which were shipped to the United States, and the country had a trade surplus of $535 billion, one of its highest on record. China's exports benefitted last year from a weaker currency, high demand for Chinese medical goods, and temporary demand caused by the fact that China’s factories were working for most of the year while production in the rest of the world was curtailed due to COVID-19.

The yuan is now seven percent stronger than it was at this time last year, and demand for China’s medical goods and other products is likely to decline as vaccines become more available and factories in other countries get back to full production. In this context, eliminating 25 percent tariffs on many products shipped to the United States, China’s largest export customer, will be a welcome offset to these headwinds.  

While one of President Trump’s main goals was to rebalance trade with major trading partners like China and to address intellectual property issues, the evidence to date suggests that climate change, not trade, is the main focus of the Biden Administration. In the first month of his presidency, Joe Biden has rejoined the Paris climate accord; stopped construction of the Keystone Pipeline, and signed an Executive Order to end drilling for natural gas on federal lands. Meanwhile, China is testing the new president by threatening Taiwan and suggesting that it might limit the sale of rare earth to the United States in order to cripple its rival’s defense forces. 

On February 10, President Biden had his first conversation with President Xi Jinping since taking office, during which he began “the process of reshaping the United States’ approach of dealing with its most intense economic competitor and strategic rival on the Pacific Rim.” The fastest way for President Biden to achieve a reset with China is to repeal the Trump tariffs. In addition to improving the U.S. relationship with China, Biden will argue that removing the tariffs, which have never been popular with U.S. corporations, will also benefit the U.S. economy. 

Given the criticism which President Biden has taken regarding his family’s business activities in China, no actions will be taken on tariffs during the first half of the year. Meanwhile, the President has commissioned a new Pentagon Task Force to examine and make recommendations with respect to the U.S. strategy towards China. Once the Task Force completes its study, President Biden will announce in the second half of the year that, as part of a reset of the U.S. relationship with China, the Trump tariffs will be eliminated, in exchange for a lessening of tensions between the two countries and commitments that China might make on climate change.

We'll see in a year how these predictions hold up. We wish all of our followers and MTD readers good health and prosperity for the Year of the Ox.