China’s President Xi Jinping presided over a meeting of the Political Bureau of the CPC Central Committee last week to analyze the state of the economy and to plan for 2019.
*** The Politburo meeting concluded that China’s economy will face challenging times over the next three quarters, with concerns raised over declining growth, particularly in the first half of 2019. The Politburo’s working assumption continues to be that current trade tensions between the US and China are likely to escalate into a full-blown trade war at the turn of the year, when President Donald Trump has threatened to raise tariffs on a set of existing sanctions to 20%, and to impose new tariffs on the balance of roughly $267 billion of imports not already taxed from China. ***
*** Chinese officials were cautiously optimistic for some de-escalation, if not a temporary truce, in trade tensions between the two countries, ever since the call between Trump and Xi on November 1 agreeing to a meeting and a dinner between the leaders at the November 30-December 1 G20 summit in Buenos Aires. But Beijing remains unsure over how much of Trump’s call was prompted by a genuine desire to call a cease fire versus what may have been intended as a pre-midterm boost to the US equity markets. The Politburo is thus still working under the assumption that trade and strategic tensions with the US will escalate further into 2019. ***
*** With that in mind, Xi stressed last week that the Politburo, China’s top decision-making body, needs to continue to focus on stabilization of the domestic economy as China’s top priority, using all macroeconomic policies – especially fiscal, investment, regulatory, and to a lesser extent monetary policies. Xi stressed that the upcoming Central Economic Work Conference (CEWC) must fully reflect the challenges ahead, and that it will need to adjust growth targets to fall more in line with “objective reality” – in other words, to the likelihood of further downward growth. ***
*** Specific stimulus measures under discussion are likely to focus on tax cuts and on fiscal policy rather than monetary policy. Officials who were expecting another potential cut in the Reserve Requirement Ratio in late November do not believe the Politburo endorsed such an action. These officials now expect the People’s Bank of China will instead consider a RRR cut only in the second half of December, and only if macroeconomic indicators for October-November have not met expectations. ***
More details on domestic stimulus measures follow below, but first, some color on the November 1 call between Xi and Trump:
The Trump-Xi Call
Both sides have publicly characterized the call on November 1 between Xi and Trump as a warm interchange between the two leaders. In that call, according to Chinese sources, Xi went to lengths to explain the Chinese position on trade.
As a starting point, Xi stressed as always that China’s “core interests,” including the “Made in China 2025” initiatives, are non-negotiable. But beyond that, he implied, other things are.
Xi went on to stress that the trade wars were detrimental to both sides (meaning not just to China, as Trump has often declared), that the US should not just focus on its trade deficit with China but should also include its surplus on the services side as well in its calculations; that a large number of US companies are producing and selling goods in China that are not included in the trade data, and; he made promises on structural reforms, strengthening intellectual property protections, and further reforming China’s State-Owned Enterprises.
Trump, from what we understand, held his cards closer to his vest, telling Xi he looked forward to meeting at the G20, to discussing trade among other issues (including North Korea), suggesting a dinner in addition to the bilateral meeting, and urging both sides to make joint efforts to prepare for the summit.
Trump further stressed that while he and the US attach great importance to US-China economic and trade cooperation, he would (really) like to continue to expand US exports into China.
The two sides finally agreed to resume a military exchange between their respective defense ministers, which took place this week.
Stimulus Measures for a Slowdown
While the tone of the talks with Trump were positive, Beijing remains uncertain if not skeptical of what if any material outcome the talks may produce. Xi stressed at last week’s Politburo meeting that all levels of government need to continue to prepare, and manage, for a slowdown over the next few quarters – in no small part in expectation of further trade tensions with the US.
As noted, the stimulus measures under consideration will be directed far more on tax cuts and fiscal policy than on monetary policy, and officials who were expecting another potential RRR (Reserve Requirement Ratio) cut in late November now expect the People’s Bank of China to consider a cut only in the second half of December if macroeconomic indicators for October-November have not met expectations.
On the fiscal side, the meeting pledged to further cut value-added and corporate income taxes, as well as social security premiums, and to increase fiscal spending on infrastructure. These tax cuts have been estimated by the Ministry of Finance to add 400 billion Yuan into the economy in Q4.
The MOF is also considering the following fiscal measures: a 2.0% to 2.5% cut to the VAT rate in the top bracket that would correspond to a 0.5% weighted average effective VAT tax cut, adding 550 billion Yuan in stimulus; merging the current three VAT tax brackets into two; raising the 2019 fiscal deficit target from 2.6% in 2018 to 3.0% of GDP for 2019; and increasing local government bond issuance from the 1.35 trillion Yuan in 2018 to 1.6-1.7 trillion Yuan for 2019.
These special bonds are seen as especially important given the government’s attempts to control the shadow banking system.
Measures for Equity Markets
In a more technical move, and to help directly support stock markets should they plunge again in 2019, the State Administration of Taxation published an amendment to the Stamp Tax Law on its website that is open for comment through the end of November.
A key element of that amendment is that, going forward, adjustments to the stamp duty on securities trading will be decided at the top by the State Council, meaning in theory they can be effected more rapidly in response to market turbulence when desired.
That rate is currently set at 0.1% and would be adjusted or abolished if a full blown out trade war were to lead to severe stock market pressures.