Does Xi Jinping need a plan B for China’s economy?

Standing tall above the wide expanse of the Yangtze River, the Wuhan Greenland Center was intended to be the Central China version of the Burj Khalifa, the towering landmark that holds the title of the world's tallest building.

When it was revealed in 2011, the tower was planned to consist of 120 levels, offer a luxury hotel, and captivate Wuhan's affluent population with its helipad and extraordinarily large lobby. The tower would also feature a sizable Communist party "service center" where esteemed patriots could handle their political matters in a sophisticated manner while admiring the scenic surroundings. Promotional materials portray it as a "landmark for individuals who possess the ability to directly influence the country's economic growth."

However, in present times, the gigantic structure serves as a symbol of the downfall of China's property market crisis and the mounting obstacles confronting the global economy's runner-up.

Under the directives of President Xi Jinping, the initial height of the hotel had to be decreased by 25 percent to 475m during its construction phase. The hotel is still not operational and numerous affluent apartment owners have faced delays in receiving their property keys, a prevailing occurrence throughout China due to the property market's downturn over the last three years.

"According to a source familiar with the building's developer, the majority of homeowners in this area are affluent, therefore they are willing to tolerate significantly prolonged delays." This individual also mentioned that the developer had initially committed to finishing the project by the end of this year, but it is now six years behind schedule.

Real estate is merely one of the signals signaling danger in China's enormous $18 trillion economy. Following a rebound in the initial quarter from the harsh Covid limitations experienced last year, wherein the government imposed lockdowns on major cities such as Shanghai, numerous aspects, including trade, industrial profits, and consumer prices, have failed to meet analyst predictions in recent months.

On Monday, China announced that its economy grew by 0.8% in the second quarter, compared to the previous three months. This indicates a decrease in growth compared to the first quarter, where the economy expanded by 2.2%.

The underwhelming performance is causing an increasing number of people to urge China to employ the strategies used in the past, such as implementing a substantial monetary and fiscal stimulus. This would help bolster the conventional drivers of growth like infrastructure and property, which heavily rely on borrowing.

However, President Xi Jinping and his top decision-makers are sticking to a position they refer to as dingli, which translates to "maintaining strategic concentration." Numerous economists interpret this as an ongoing effort to decrease debt, particularly in the excessively overborrowed property industry, while simultaneously striving for worldwide dominance in cutting-edge technology and other essential sectors of the economy, such as transitioning towards renewable energy.

According to Arthur Kroeber, the founding partner and head of research at Gavekal Dragonomics, Xi Jinping's perspective on economic success is not based on the growth of GDP. Instead, he values achieving independence in technology.

According to his statement, as long as the government can meet its goals in this area, he believes that we will be able to find a strategy to distribute the growth adequately and satisfy the population.

The query is, as the engines of progress slow down, will Beijing be capable of remaining on track? Or will the previous calculations that it must sustain a specific level of growth to ensure societal stability come into effect — clearing the path for a resurgence of extensive economic measures?

Xi, who started his third term in office in March, faces a challenge as both the property sector and one of China's crucial growth drivers, trade, experienced a significant slowdown in the second quarter.

Amidst the pandemic, people across the globe relied on China for electronic devices that facilitated remote work and protective equipment that safeguarded against Covid. Furthermore, the demand from online consumers played a vital role in sustaining China's trade numbers, counteracting the adverse effects posed by the stringent domestic restrictions.

However, in the past year, the export market of China faced a setback due to the increasing interest rates implemented by western central banks for the purpose of controlling inflation. As a result, the demand for China's exports experienced a significant decline. According to official data released on Thursday, in the month of June, the year-on-year decrease in China's exports reached a whopping 12.4% in terms of dollars, marking the largest decline since the start of the pandemic.

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The trade concerns have worsened due to the geopolitical conflicts with the US, causing western companies to express a greater desire to reduce risks by moving their supply chains away from China.

The declining trade figures are adversely affecting Chinese producers like Richard Chan, who serves as the managing director at Golden Arts Gift & Decor. This company primarily specializes in producing synthetic Christmas trees and ornaments, operating out of the city of Dongguan located in the southern region of China.

According to Chan, his company experiences a decrease of 30 percent in orders this year when compared to the previous year. Controlling about 80 percent of its product exports to the United States and Europe, the company usually receives the majority of its orders by the month of May.

According to the Hong Kong entrepreneur, the market has been severely impacted by inflation. To illustrate, he points out that a Christmas tree, which previously had a price tag of €100, now requires €150 to purchase, and consequently, individuals are refraining from buying it.

The factory he manages has recruited only half the usual amount of temporary workers for the busy manufacturing period, as seen in previous years before the pandemic hit. According to Chan, the state of the manufacturing industry is deteriorating. It appears to have a gloomy future, and our only recourse is to attempt cost-cutting measures wherever possible.

Additional companies are facing challenges not only due to decreased overseas trade, but also due to low consumer demand within the country for construction materials and durable household goods as a result of the decline in the property market.

According to Danny Lau from Kam Pin Industrial, a company based in southern Guangdong province, carrying out business in mainland China has become increasingly challenging. The market has shrunk and the competition has intensified. Kam Pin Industrial specializes in fabricating aluminium curtain walls for both residential and commercial buildings.

Lau's business mainly relies on clients from the US, making up approximately 30% of his total clientele. The remaining majority of his customers come from China. According to his forecast, he anticipates a substantial rebound in his business operations around 2025, coinciding with the anticipated improvement of the global economy.

He mentions that sales within mainland China also experienced a decline of over 60% compared to the same period in the previous year. The possibility of a rebound largely relies on the stimulus policies implemented by Beijing and any reduction in tensions between the United States and China, he further explains.

According to economists, within the country, there are indications that Chinese citizens and non-governmental companies are continue to face the consequences of the pandemic. This is especially true for the previous year, when numerous major cities went through extended periods of lockdown.

In contrast to the US and other western nations, China primarily focused its stimulus efforts on boosting the supply side instead of directly aiding consumers. As a consequence, economists note a recurring decline in both consumer and business confidence. Although there has been a revival in domestic demand for services like local tourism, individuals are hesitant to make significant purchases.

"Given the decline in orders and profits over the last 16 months, it becomes extremely challenging for businesses to feel assured in this situation," states Tao Wang, UBS Investment Bank's principal economist for China. "Many businesses possess surplus capacity, which discourages them from pursuing expansion."

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Concurrently, the authorities initiated stringent measures against various significant industries amidst the pandemic era. The first step taken was imposing restrictions on the leverage of real estate firms, followed by targeting ecommerce platforms like Ant Group, owned by internet mogul Jack Ma, and the finance sector.

There are aspirations that the state is now declaring a ceasefire on some of these measures.

Last week, the authorities declared a massive penalty of Rmb7.1bn ($984mn) for Ant, which a few experts regarded as a favorable development. It could potentially indicate the conclusion of the internet conglomerate's "rectification" process.

Premier Li Qiang of China, the second-highest-ranking official, also had a meeting with technology executives from ByteDance, the parent company of TikTok, as well as Meituan, a food delivery group, and Alibaba Cloud, led by Ma. During the meeting, Premier Li Qiang reassured them that the government would establish regulations that align with the norms.

This comes after a friendly and persuasive campaign by the Chinese government targeting international governments and businesses. The efforts were successful, leading to the reopening of discussions with the United States after a significant break. US Treasury Secretary Janet Yellen traveled to Beijing during this month's visit.

UBS's Wang states that the government has made efforts to reassure the business industry regarding the restoration of regulations. However, Wang suggests that the private sector may require more definite and tangible policies to back up these assurances. Even if such policies are enacted, it may still take a while for the private sector to truly feel confident and at ease.

During an intimate gathering of indigenous entrepreneurs in Wuhan, the conversation primarily revolved around common subjects - identifying individuals with strong connections to the local Communist party leaders, and sharing lighthearted anecdotes pertaining to the preferred type of Chinese liquor, baijiu, by the nation's prominent figures.

Many people were still facing difficulties after experiencing a challenging period throughout the pandemic that originated in Wuhan. The busy streets of the city, which used to be lively before the pandemic, have now become noticeably quieter. This is particularly the case for restaurants located in central areas, as a significant number of them had to shut down due to the impact of Covid.

However, others mentioned proof that governmental measures aimed at boosting the economy, like funding for infrastructure, were effectively preventing businesses from sinking.

"We're facing challenges, but we're finding ways to cope," explains a businessperson who specializes in building tunnels and undertaking other public infrastructure projects funded by the government.

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A former high-ranking government official in Wuhan asserts that the decrease in economic activity this year can be attributed in part to companies accumulating stocks in 2022 during the periods of confinement. He explains that the significant decline in the producer prices index in June was a consequence of this situation. "There is a substantial amount of stockpiling. When you are unable to sell, the logical course of action is to reduce prices."

However, he states that the current rate of improvement is in line with what was expected. He explains that a person who was once ill and is now recovering shouldn't be anticipated to participate in a marathon the very next year.

Last week, Liu Guoqiang, the deputy governor of China's central bank, reiterated the fact that it typically takes about a year for most nations to fully recover from the Covid restrictions after lifting them. However, it's noteworthy that China lifted its pandemic controls merely six months ago.

However, analysts suggest that it is still uncertain whether the government can maintain its position and refrain from implementing further measures to boost the economy if the situation continues to deteriorate this year.

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The real estate industry presents the most significant obstacle. Despite achieving stability at the beginning of the year, it has once again experienced a decline in recent months. A study conducted by Nomura, referencing information from the Beike Research Institute, revealed that prices of previously owned homes decreased by 1.4% in June when compared to May. These falls have been occurring at a faster rate in the preceding months.

The government recently declared that a former program to assist developers with credit would be prolonged for an additional year. Additionally, they have reduced standard lending rates and introduced additional initiatives to help the industry. However, there is uncertainty regarding whether these actions will effectively restore stability to the market.

According to a real estate specialist in Wuhan, both property developers and buyers are reluctant to make investments, especially given the recent bankruptcy of Evergrande, a major and heavily indebted corporation in the country.

"It's hard to believe that a company like Evergrande could have suddenly collapsed. It's causing anxiety among buyers who feel uncertain about the market," he remarks.

The persistent issue was the significantly high amount of incomplete residential developments in the market, which he approximates to be around 250 in the province of Hubei all by itself, and Wuhan serves as its capital.

The federal government had allocated certain funds to regional administrations to assist builders in finishing these projects — deemed crucial to rejuvenate trust among consumers. Nevertheless, local governments hesitated to determine which builders should be granted these funds due to apprehension of being blamed for favoritism.

The financial situations of local governments in numerous urban areas are in a critical state. This is mainly due to the disappearance of income obtained from selling lands to developers and the difficulties faced by their financial entities, referred to as LGFVs. These LGFVs frequently invest in infrastructure projects that generate low profits, thus making it challenging for them to meet their obligations towards creditors.

The real estate specialist from Wuhan suggests that Beijing may not be inclined to utilize properties for immediate economic support. However, there is significant pressure at the regional level to implement such measures. According to him, the local community anticipates a substantial stimulus package, which unfortunately, has not yet been initiated.

Numerous economists hold the belief that Xi Jinping will need to witness a deterioration in the situation and then decide to declare a considerably greater stimulus endeavor.

Scarcely anyone anticipates a spectacle comparable to the colossal "bazookas" deployed in previous times, like the aftermath of the 2008 worldwide economic crisis, wherein China infused Rmb4tn ($559bn) into the economic system.

According to economists, Xi and his policymakers seem to view the property slowdown as a crucial yet uncomfortable adaptation to the previous economically burdened model. Despite the financial markets' demand for stimulus, they believe it is necessary.

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According to Kroeber from Gavekal Dragonomics, there is a common belief that the leadership remains optimistic while the markets are more concerned about the property crisis and the sluggish improvement in consumer confidence.

According to the author, it is likely that the economy will achieve the desired growth rate of 5 percent this year. However, Xi may be willing to allow it to decline further in the upcoming years to allow for adjustments to the new circumstances. This decision could be based on the assumption that a majority of households already own their homes and privately owned businesses would be able to adapt to the lower growth path.

According to Xi, the main focus is on achieving the overall strategic goals of technological independence and security, especially as competition with the United States intensifies. Kroeber believes that this approach will be successful for a considerable period of time. He points out that the majority of people in China have experienced satisfactory progress throughout the past three decades.

However, this statement will not be well-received in industries like Wuhan's struggling real estate sector.

In a showroom located on the outskirts of the city, a different skyscraper is emerging amidst dilapidated houses that were obtained for demolition during the peak of the economic boom.

In the inner circle, a sales representative confidentially reveals that the current state of the business is woeful, as she hasn't had a single customer in the recent months. The moment her superior reduced prices, individuals who had previously invested in this venture became infuriated.

"She claims they were on the verge of initiating a demonstration."

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