This year’s third plenum took place amid high stakes, with slowing domestic growth and escalating geopolitical tensions. Yet market commentators hoping for swift and definitive solutions were once again left disappointed, as the meeting provided few clues on how to tackle the worsening property downturn.
Instead, policymakers pledged to accelerate existing efforts in ‘reducing inventories and increasing funding for affordable housing’. It’s clear that the plenum has no desire to reignite the property bubble for short-term economic cure.
This isn’t a surprise to us. China has firmly shifted its growth paradigm in recent years, from chasing a nominal growth rate into building a resilient economy driven by innovation that can cope with protracted geopolitical repercussions. It appears that Beijing believes the best way for China to get through its current economic difficulties is not by devising a new approach to rescue the property industry, but by accelerating the structural transition away from it.
The plenum ‘resolution’, a 22,000-character document outlining top-level goals to be achieved by 2029, is vague on many near-term economic challenges but contains a detailed roadmap for long-term policies supporting science, technology and manufacturing. It addresses industrial policies for emerging sectors such as AI, aerospace, biotech and renewable energies, as well as initiatives for the training and remuneration of scientists. It also highlights fiscal and tax reforms aimed at reducing local governments’ debt burdens, enabling them to act as venture-capitalists for technology-related investments.
This approach might seem bold to conventional economic wisdom, which favours a sound stimulus package to limit economic shocks and facilitate smoother adjustments. However, for Beijing, it may seem sensible given China’s recent successes in key modern industries such as electric vehicles (EV) and solar energy.
China’s industrial policies present a conundrum for investors. On one hand, subsidies fuel intensive competition that squeeze profit margins – only 1 in 7 Chinese EV brands is expected to turn a profit by 2030. On the other hand, these policies spur innovation, accelerate the transition to cleaner energy and benefit consumers with lower prices, higher quality and more innovative products and services – the cost of solar panels in China is 60 per cent cheaper than that in the US. Who wins? A recent article in the Asia Times delved into this complex topic. It’s a bit philosophical, but I highly recommend a read.
Another key debate among investors is whether the private sector and market mechanisms continue to have space in an increasingly state-led Chinese economy. The third plenum did not offer much new information. It reiterated that the state must play a central role in major industries that are essential for economic resilience such as energy and telecommunication (which we acknowledge), and increasingly in developing innovative capabilities (which we are sceptical of). It also vowed to allow the market to play a decisive role in resource allocation and create a fairer market environment for private businesses. It is not uncommon for Chinese policies to set such seemingly contradictory goals. While not as inspiring as some had hoped, we view this as a continuation of the ‘normal supervision’ era for the internet sector, which remains a crucial part of the technology innovation ecosystem highly valued by the policymakers.
Beyond economic issues, the plenum also addresses a few social reforms related to the urban-rural inequality and the challenges posed by an aging society. It is interesting to note that the once high-profile slogan of ‘common prosperity’ is clearly de-emphasised. Perhaps policymakers recognised that it was not well received by the entrepreneurial class whom China relies on to create world-leading technology companies?
All taken together, the third plenum further underscores Xi’s vision of making China a ‘science and technology superpower’. Economic metrics are no longer the central focus - other sectors will be managed so that they do not disrupt the drive for science, technology and advance manufacturing. It’s a big bet with potentially profound global implications. We will keep pondering this and share our thoughts with you in future monthly letters. A recent article in The Economist documented some of China’s sci-tech progress so-far: the country accounted for close to half of the global patent applications in 2022, and now contributes around 40 per cent of the world’s research papers on AI, compared to 10 per cent for America and 15 per cent for Europe.
We continue to focus on stock picking in China, underweighting Chinese financials while remaining optimistic about the attractively valued internet/platform companies in the country, as well as selected consumer goods manufacturers. Our colleagues in Shanghai noted that the cost of running businesses in China has significantly declined over the years, thanks to cheaper energy, improved logistics and technology infrastructure, and still relatively efficient low-cost labour. This is a point worthy of note. We recently added Midea, a white goods producer, to our portfolio. Its fully-connected 5G smart factory can make a washing machine every 15 seconds!
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