3 Factors to Watch as China’s Economy Starts to RecoverFebruary 10th, 2023 | Posted in Investing
Will China’s Economic Resurgence Live Up to the Hype?
2022 started ominously for China, with the implosion of real estate giant Evergrande. The headwinds only grew stiffer from there.
Throughout the year, relentless “zero Covid” policies and the resulting lockdowns and factory closures disrupted production, trade, and consumption. Restrictions took a toll on growth – according to China’s National Bureau of Statistics, the country expanded by a paltry +3% in 2022, well below the government’s 5.5% target and also marking the second-worst year of output since 1976.
Looking ahead in the new year, many market watchers and investors are hopeful that China’s economic fortunes will reverse, creating a surge in economic activity that will bolster consumption, trade, and global growth in the new year. Wall Street analysts are pegging China’s 2023 GDP growth at 5% or higher.1
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We agree China’s economy should experience a strong rebound in the second half of the year. But we would also caution against viewing China as a surefire tailwind that will boost an otherwise weakening global economy in 2023. While this outcome is certainly possible and would be welcomed, there are three potentially mitigating factors investors should watch closely:
1. A Messy Economic Reopening
China’s abandonment of restrictive Covid-19 policies happened in the dead of winter, which has given way to a massive surge in infections, hospitalizations, and deaths. China does not regularly publish Covid-19 information, so it is difficult to gauge the level of strain being felt by hospitals, citizens, and businesses. But suffice it to say that the economy is still feeling the pressure.3
What’s more, China’s reopening has come just before the Lunar New Year, when hundreds of millions of people take time off to travel and celebrate the holiday. The timing makes it challenging to predict how cases, mobility, and future restrictions may look in the coming weeks and months.
China lacks natural immunity from previous infections and also does not have access to highly effective vaccines, which means that even if shutdowns are no longer occurring, de-facto self-imposed lockdowns seem likely to increase as citizens hunker down to avoid infection. Our view is that it may take a quarter or two for the crush of infections to ease and for China to begin functioning normally as an economy, but with the wild card of snapping back to harsh restrictions still looming in the meantime.
2. New Price Pressures Could Challenge Global Central Banks
Assuming China manages to navigate the surge of Covid-19 cases and hospitalizations without resorting to new restrictions and lockdowns, there’s another issue that may complicate matters in the global economy: new price pressures.4
If China’s economic rebound progresses as many hope, there are reasons to believe it could be inflationary in some respects. China’s recovery could increase its demand for energy, which could put upward pressure on the price of oil and other commodities.
According to the International Energy Agency, China’s economic resurgence could push global demand for oil to 101.7 million barrels a day, which would eclipse pre-Covid levels and likely push crude oil prices significantly higher than where they sit today. Higher oil prices could mean higher gas and freight prices, which could negate some of the recent gains made in lowering goods inflation. China’s demand for natural gas and chemicals could also add some inflation pressures to commodity markets, at a time when the war in Ukraine continues to act as a strain on global supply.
Taken together, an economic surge in China may add inflationary pressures at a time when global central banks in the developed world are pushing hard to tamp down prices. China’s reopening could complicate the path of interest rates for many central banks, including the Federal Reserve, which would now have to factor in these new pressures coming from China.
3. China Has a Demographic Problem
Chinese government officials recently confirmed a trend that many investors have had on a watchlist for years: China’s population is shrinking.
According to government officials, 9.56 million people were born in China last year, which was materially less than the 10.41 million people who died. It was the first-time deaths outnumbered new births in well over 50 years, and also marked the sixth straight year of declining births.5
Declining birth rates and an aging population are bad news for a rapidly growing economy. As the labor force gets older, there are of course fewer people available to boost production and also to pay taxes, and contribute to the pension system needed to provide income for older generations. By 2035, it is estimated that 400 million people in China will be over 60, which would be nearly 1/3rd of its population.
China has been actively trying to stem or outright reverse this decline but has so far not been very successful in boosting the birth rate. The 30-year “one-child” policy, which ended in 2016, was an ill-timed and ill-advised strategy, and one that is proving very challenging to change. China’s government has since raised the limit to three children and is also offering cash, tax cuts, and even property concessions to try and encourage family formation. But it hasn’t been enough.
From an economic growth standpoint, this issue is more long-term than the challenges being faced in 2023, but investors are weighing it when thinking about China as an investment opportunity.
Bottom Line for Investors
In our view, investors should not expect to see a major rebound in China in the first half of 2023, but we do expect the situation to improve later in the year. Chinese consumers have accumulated more than $2.2 trillion in bank deposits over the last year6, as many were subject to Covid restrictions that curbed consumption. A challenging winter may give way to a better spring and summer, in which consumers will rebound strongly just as they did in western countries.
As for the inflation issue, China may indeed place upward pressure on the commodity markets, but a slowing of the global economy outside of China may serve to neutralize this effect, preventing prices from rising too swiftly. China’s reopening may also further ease supply-chain bottlenecks as factories ramp up production to full capacity again, which may be deflationary for some goods. In the absence of major fiscal and monetary stimulus in China, we do not envision a surge in inflation as we saw in the U.S. and elsewhere.
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1 Wall Street Journal. January 22, 2023.
2 Zacks Investment Management may amend or rescind the A Better Way Forward: Actively Managing Passive Index Funds guide offer for any reason and at Zacks Investment Management’s discretion.
3 Goldman Sachs. December 9, 2022.
4 Wall Street Journal. January 22, 2023.
6 Wall Street Journal. January 22, 2023.
7 Zacks Investment Management may amend or rescind the A Better Way Forward: Actively Managing Passive Index Funds guide offer for any reason and at Zacks Investment Management’s discretion.
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