Our View on China’s Vague, Dull and Uninspiring Third Plenum

China recently concluded its Third Plenum, a widely watched Chinese Communist Party (CCP) meeting theoretically mapping out major decisions impacting the country’s broad, long-term economic direction and key reform initiatives.^[i]

We say “theoretically” because, despite loads of hype we saw leading up to it, most observers we follow portrayed the outcome as a dud. Indeed, based on our reading, it offered little new and few concrete proposals, much less plans to tackle longstanding issues like China’s property downturn, a tax system that cripples local government finances, and state-owned enterprises’ market dominance. Whilst perhaps unremarkable, we think sentiment surrounding the Plenum is itself notable. In our view, the lack of excitement shows how dim outlooks are, one of many signs global sentiment isn’t overstretched.

China’s political cycle corresponds with the CCP’s National Congress, which convenes every five years to appoint its leadership.^[ii] The year after appointment, the Third Plenum typically takes place—and is often consequential.^[iii] For example, Deng Xiaoping’s Third Plenum in 1978 unveiled his “reform and opening up” policy that led to China’s decades-long growth miracle.^[iv]

2013’s Third Plenum—President Xi Jinping’s first—also stirred much fanfare, touting plans to “give full play to the decisive role of the market in allocating resources.”^[v] Many commentators we follow hailed it as a “turning point” in China’s economic development, promising further market liberalisation, a greater private sector role in the economy and allowing more foreign investment.^[vi] It was also supposed to relax the one-child policy and internal migration restrictions.^[vii] As one analyst proclaimed then: “[T]his is the beginning of another wave of private sector development. There is no question about that. Because party leadership embraced the idea. This is already being seen as the mandate of the Xi Jinping administration.”^[viii]

Except it hasn’t worked out that way. Save for abandoning its one-child policy in 2015, its main policy pledges haven’t been met in the decade since.^[ix] Meanwhile, Xi’s next Third Plenum in 2018 laid the groundwork to lift presidential term limits, effectively making him ruler for life.^[x] This has come with regulatory crackdowns alongside greater state control over the economy, dashing hopes for markets’ allegedly decisive role.^[xi]

Over the last few years, China has suffered a prolonged bear market and slower economic growth, and many commentators we follow perceive imbalances that contribute to these issues—e.g., an ongoing overreliance on manufacturing and exports at services’ and consumers’ expense.^[xii] Whilst many of them looked to last week’s Third Plenum (which was delayed a year without explanation) for official clues on how those might be addressed, we didn’t see any calling it an economic or market gamechanger. Most, we found, questioned whether there would be any beneficial policies at all. What emerged was an emphasis on “high quality growth”—particularly in advanced manufacturing and technological self-reliance—to promote “common prosperity.”^[xiii]

The main takeaway from observers we follow: tolerance for slower growth—and no big stimulus that could spur faster growth rates, which would presumably be lower quality (wasteful and potentially leading to bad debts, which China is already trying to dig out of from prior big stimulus efforts).^[xiv] However, we don’t think such vague development goals are much different than ones stated previously, giving the impression the Plenum was mostly full of empty platitudes. Talk of “deepening reform” without specifics suggests to us no new major initiatives are likely to result.^[xv]

We saw many economists also latch onto language China must “unwaveringly strive to finish this year's growth targets” of around 5%.^[xvi] To them, this apparently implies some stimulus to deliver target growth. But in our view, minor policy support here and there has been what Beijing was doing anyway in that regard—it is nothing new. Then, when the People’s Bank of China (PBoC) did the slightly unexpected last Wednesday and lowered lending rates -0.2 percentage point (ppt) for those borrowing from its medium-term lending facility—more than the -0.1 ppt the PBoC dropped benchmark rates on Monday—it seemingly spooked markets.^[xvii]

As Reuters reported, Chinese stocks took “the sudden urgency on the part of authorities to lend to mean the deflationary pressures and weakness in consumer demand are more severe than what is priced into assets.”^[xviii] The broader view we find: Rate cuts alone aren’t enough, and if officials are relying on them over root-and-branch reforms, economic prospects are likely dim.^[xix] But this reaction to old, and in our view false fears and what amounts to small financial plumbing adjustments strikes us as excessively dour. In our view, the latest (marginal) rate cuts, rather than spur optimism—or indifference—invited pessimism that something must be amiss that markets don’t know despite yearslong scrutiny.

We think this all echoed the reaction to China’s gross domestic product (GDP, a government-produced measure of economic output) report two weeks ago, illustrating what we think has become a pretty wide gap between sentiment and reality. In Q2, Chinese GDP slowed to 4.7% y/y from Q1’s 5.3%.^[xx] Though that may technically be around 5%, it missed consensus estimates and raised the usual warnings of weaker growth amongst commentators we follow.^[xxi] And coming ahead of the Third Plenum, some of them theorised GDP’s slowdown could spur more forceful stimulus—which we see now is getting short shrift with their projections for growth to slow further.

But we think mixed underlying data call that conclusion into question. Whilst it is well known that household consumption is lacklustre amidst ongoing fallout from the property downturn, based on the financial outlets we read, industrial production and exports are picking up.^[xxii] Headline press coverage we observe fixates on the former but renders the latter an afterthought, if not warning it will fall victim to geopolitical trade tensions.

In our view, although China appears unlikely to see a growth resurgence any time soon, what we find remarkable is that so few anticipate one, leaving a low bar for its actual global economic contributions to clear. For investors, we find sentiment toward the Middle Kingdom increasingly aims low. But don’t forget: For China, simply going through the motions likely keeps growth around a 5% annual pace—adding to world economic expansion, according to our analysis.

Whilst that may mean some of the well-known headwinds to growth remain, we think it helps mitigate the potential for disappointment in Chinese stocks. That few commentators we follow see a quick fix from the Third Plenum—or just big stimulus of any kind from it—suggests to us sentiment isn’t over its skis globally.