China’s economy will post strong growth in 2021. Assuming the continued suppression of COVID-19, growth is projected to reach 8.5 percent this year. For next year we expect growth to slow to 5.4 percent, as low base effects dissipate, and the economy returns to its pre-COVID trend growth.
As the recovery becomes more entrenched, the structure of aggregate demand is expected to continue to rotate toward private domestic demand. Real consumption growth is projected to gradually return to its pre-COVID-19 trend, supported by the ongoing labor market recovery, rising household incomes and improved consumer confidence. Investment will also remain an engine of growth, but its structure is expected to shift toward private investment as manufacturing capex picks up, offsetting cooling infrastructure and property investment. As the global recovery is gaining momentum, export demand is expected to keep industrial capacity utilization high in the short term. However, the contribution of net exports to growth will moderate in the medium term as import growth picks up and international travel slowly resumes in 2022.
Despite the recent surge in imported raw material prices and a pick-up in domestic demand, consumer price inflation is expected to remain below target. This reflects the limited pass-through of rising producer prices to consumer prices as well as the effect of pork price deflation after last year’s swine fever.
Given persistent uncertainty, the authorities will need to stay agile and proactively adjust the level and composition of macroeconomic policy support. As China’s recovery firms up, macroeconomic policies are expected to shift from accommodative to more neutral settings. The pace of policy normalization, however, should continue to be data-dependent and calibrated to the strength of the recovery in China and the rest of the world.
Unless inflation moves well above target and inflation expectations become unanchored, monetary policy normalization should proceed cautiously.
Financial stability risks associated with high corporate leverage and inflated property markets will need to be closely monitored. Rising corporate defaults may cause short-term financial market volatility but will improve risk pricing over the long run. A strengthened corporate insolvency framework would facilitate the orderly exit of weak or failing corporates, freeing up resources to flow to more productive uses. Similarly, a comprehensive framework to deal with weak banks that are unable to meet capital requirements is also critical to allow non-viable banks to exit without triggering contagion to the wider banking system.
Turning to fiscal policy, China has policy space at the central level, and policy makers should be ready to maintain fiscal support should private demand remain sluggish and external imbalances further increase. Focusing additional fiscal efforts on social spending and green investment rather than traditional infrastructure investment would not only help secure the recovery and bolster short-term demand but also contribute to the intended medium-term rebalancing of China’s economy.
Looking beyond this year’s rebound, policymakers should redouble their efforts toward promoting growth-enhancing structural reforms and steering the economy onto a greener, more resilient, and inclusive development path. Achieving higher-quality growth requires mutually reinforcing reforms:
First, more progressive taxation together with stronger social safety nets would help curb high income inequality and boost consumer spending.
Second, a wider use of carbon pricing together with scaled-up green investment could accelerate China’s intended transition to low carbon growth in line with its long-term objective of achieving carbon neutrality by 2060
Third, continued opening-up of domestic markets for example by further reducing the negative list for private and foreign investment together with policies to mitigate distortions in factor markets, including in the financial system would improve resource allocation, enhance competition and boost innovation .
A strong effort in this direction during China’s 14th Five-Year Plan (FYP) will raise productivity and incomes and lead to more balanced, consumption-driven, and environmentally sustainable growth.