Updated scenario for China – faster consumption-led growth in 2023

We have recently revised our GDP growth forecast for 2023 to 6.0%, up from our previous estimate of 5.2% and above the consensus of 5.1%. This is because China surprised investors with a much earlier post-Covid reopening than expected. Indeed, our baseline scenario assumed that policymakers would enter a provisional phase between the 20th Communist Party Congress (CPC) in October 2022 and the National People’s Congress (NPC) in March 2023. During this period, local governments would avoid sweeping lockdowns while simultaneously shifting existing resources away from testing, and towards vaccinations and managing the initial rise in infections. However, as reasonable as this approach may have sounded in October, things didn’t quite pan out as expected.??

Specifically, we think that two macroeconomic triggers might have prompted authorities to act more swiftly. Firstly, virus containment measures around the October CPC contributed to a sharp deterioration in domestic sentiment, led by a marked contraction in activity indicators such as retail sales and PMIs. The second catalyst was likely external demand, which started to falter more rapidly than expected, requiring a policy pivot to make up for it by boosting domestic demand. The first clue came on December 7, when China’s National Health Commission (NHC) released ten measures to reduce the impact of the “Zero-Covid” policy on the economy. Events snowballed from this point onwards: on December 12, the NHC announced the end of mandatory mass testing and stopped publishing daily infection figures; shortly after, China downgraded its management protocols for Covid, and reopened its borders with the rest of the world on January 8.?

During his annual Lunar New Year speech, President Xi Jinping stated that the country will “strive to achieve an overall upturn in economic performance and continue to improve people's lives”. Indeed, January indicators seem to confirm this sequential pick-up in economic activity. Tourism revenues during the Lunar New Year travel period recovered to 73% of pre-Covid levels (we use 2019 as a baseline), up from 56% in 2021. Meanwhile the number of tourists recovered to 89%, up from 74% in 2021. Sentiment indicators also confirm a sequential pick-up. January PMI numbers improved across the board, with all gauges returning to expansionary territory after slowing more than expected in December. The rebound was sharper amongst services, with manufacturing lagging slightly behind.

The reopening process will enable consumption-led recovery to take hold from Q1-23 onwards. This is faster than our initial expectation of a rebound starting in Q2-23 as China phased out virus containment measures in mid-December, ahead of the expected March timeline. This trend will likely last, as consumption will be aided by a build-up in buffers over the past years. Much like in other parts of the world, Chinese households accrued excess savings in 2022. Since the April lockdown in Shanghai, the difference between household deposits and loans widened to the widest level on record. Excess savings reached CNY 16 trillion or roughly 13% of GDP in 2022. As this is much larger than the average growth rate of the past, we should expect that some of this sizeable pile of savings will find its way into additional consumption in 2023.

Chinese equities have rallied nearly 16% since December 7. Much of this can be traced back to increasing earnings expectations, as faster growth entails improving demand. Meanwhile, PE expansion has been modest, with the MSCI China Index trading at 12.3x on a forward PE basis, around its 10-year average. For the index to move towards its cyclical peak, this would require additional stimulus measures. President Xi’s recent interventions seem to suggest that this is coming, after authorities reveal the policy mix for 2023 at the NPC in March. However, investors should not lose sight of the bigger picture as we move into the second half of the year and the economic recovery is secured. China’s “Common Prosperity” programme entails a pivot towards quality over quantity of growth in the long term, requiring a focus on a well calibrated sector rotation in 2023. Active management can be advantageous as investors look to navigate this transition effectively.

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