The year of the tiger in 2022 turned out to be a dramatic and somewhat brutal year for investors in China. The year saw a slump in the property market, President Xi Jinping securing an unprecedented third term as leader of the Chinese Communist Party, widespread protests about the country’s strict zero-Covid policy and, more recently, an abrupt end to lockdown restrictions.
According to the lunar calendar, 2023 is the year of the rabbit – an animal that symbolises calm and harmony. As we transition from the year of the ferocious tiger to the timid rabbit, could this year bring a change of fortune for China? The main focus will undoubtedly be on China’s reopening, after almost three years of restrictions on mobility, frequent Covid testing and health surveillance. The impact on China should ultimately be positive as the economy rebounds, whereas the implications for global inflation and financial markets are less certain.
China’s reopening boost
China has committed to a swift reopening, despite seeing a wave of Covid cases sweeping across the country. The initial phase of the reopening is chaotic, or even crisis-like, which could weigh on near-term activity. There have been widespread reports of people failing to get hold of basic medication, hospitals becoming full, and many employees becoming too sick to work. The fear of catching Covid means many people are avoiding going out and spending. With Lunar New Year often described as “the biggest human migration on earth” as people travel home to see families, it will be a testing time as there could be a new wave of Covid sweeping from the major cities to less busy communities.
On 8 January, China reopened its borders with the rest of the world, ending quarantine measures for inbound travellers. While the surge in Covid cases has prompted many countries to impose testing requirements for Chinese tourists, which will dampen travel appetite, at some point Chinese tourists will be back en masse, re-igniting tourism spend in countries like Japan, Thailand, South Korea, France, Spain, Italy and the UK.
This matters because Chinese tourists have deep pockets. According to the World Tourism Organisation, Chinese travellers spent $277bn overseas in 2018 and another $255bn in 2019, accounting for almost 20% of all international tourism spending1 . After three years of saving and limited travelling, we could see a big spike in spending on flights, hotels, restaurants and shopping. Though the exact quantum and timing of this splurge is difficult to predict, especially as people may remain cautious initially, China’s reopening will provide incremental support to global growth, at a time when major Western economies are expected to be, or are close to being, in a recession.
While activity in the first quarter is likely to remain under pressure, growth is expected to bounce back in the second quarter onwards as people gain better immunity against the virus. Encouragingly, there is so far no indication of new Covid strains emerging. And if the reopening mirrors the experience in the West, there will be huge pent-up demand for services and international travel. Confidence among consumers should return steadily as the health and economic backdrop improves over the course of 2023.
Oil demand and inflation
A rebound in domestic activity and demand from Chinese travellers sets the scene for a year in which China’s demand for oil is likely to rise. China is the second-largest oil consumer in the world, consuming 14% of the world’s total in 2019, according to the US Energy Information Administration2 . Meanwhile, jet fuel demand accounts for around 7% of global petroleum consumption. There is plenty of scope to drive oil prices higher: passenger throughput at Chinese airports is around 60% lower than the peak level, while outbound flights from China are about 10% of pre-pandemic levels3 .
In 2022, oil prices essentially made a round trip – initially driven up by the war in Ukraine, but subsequently depressed by China’s demand and global recession concerns. Rising Chinese demand for liquefied natural gas (LNG) may increase competition with Europe, at a time when the latter is trying to fill its gas storage, therefore pushing up prices. The rebound in the Chinese yuan will also create more inflation outside of China as, all else being equal, it will push up the cost of Chinese goods abroad.
Supply chain bottlenecks, such as logistic disruptions or halts to production, are less likely when China eventually normalises, but the impact on global inflation is uncertain given the various dynamics in how the reopening affects supply and demand. We expect inflation to be marginally boosted by higher demand, but the trend of slowing inflation in major developed economies is unlikely to be derailed as interest rates rise and growth slows markedly in 2023.
Encouraged by the end of the zero-Covid policy, Chinese equities have rallied hard from their low point in October. With Chinese economic growth set to outperform other major economies in 2023 and a revival in investor sentiment towards the region, the outlook for Chinese and wider Asian equities is likely to be positive. However, markets will remain sensitive to China’s reopening progress and there will be bumps along the way. After the strong rally since October, we think quite a lot of the optimism has already been reflected in the price of Chinese equities, which means valuations are no longer as cheap.
The property sector also remains challenged as a result of high levels of debt and low buyer confidence. To ensure a smooth recovery in 2023, the government has pledged more support for the economy. China has rolled out 16 policy measures to support the property sector and is planning to relax restrictions on property developer borrowing. China is also considering widening its budget deficit and a record quota for local government bonds, which should support infrastructure spending. Contrary to major Western economies, there is room for further interest rate cuts as inflation remains low.
Furthermore, an escalation in the recent regulatory crackdown is unlikely this year, given the focus on economic recovery and evidence of a softening in tone towards technology giants. For instance, Chinese regulators have given approval to Ant Group to raise $1.5bn for its consumer unit, following a surprise ban on its IPO in 2020, which marked the start of a series of crackdowns on Chinese tech giants.
Overall, the year of the rabbit looks set to be a happier and calmer year for Chinese investors, with many previous drags on performance now working in reverse. However, the medium to longer-term picture is more ambiguous. Recent data showed China’s population fell in 2022 for the first time in 60 years. This is a historic shift that is difficult to reverse, and it could limit China’s long-term growth prospects. With Xi’s power consolidation and installation of loyalists in the cabinet, his tight grip on China will not change and so ‘key-man risk’ remains. Meanwhile, geopolitics are a point of concern, with the US increasingly restrictive on the export to and access of premium technology by China, and tensions remaining with Taiwan. So despite a more constructive view on China in the year of the rabbit, markets will be alert to the higher risks involved over the longer term.
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