(Below is based on the first of a series of Chinese-language reports on China’s economy in 2020 by the macroeconomy research team under the Thought Leadership project of Peking University's Guanghua School of Management. It was penned by Guanghua professors Yan Se and Liu Qiao.)

Year 2020 is crucial for China as it marks the completion of the country’s 13th Five-Year Plan and the building of a moderately prosperous society in all respects while laying foundation for the next five-year plan. Last year saw a 6.1 percent growth for the country’s economy. With a national economic census that will result in a revision to its GDP taken into consideration, China’s economy will still need to grow by at least six percent in order to meet its target to double size between 2010 and 2020.

It is our estimation that the Chinese economy will gain pace after a slow start this year, with a GDP increase of six percent in the first quarter before rising to 6.2 percent by the year end. The overall GDP growth might be around 6.1 percent.

GDP GROWTH AROUND 6%

We believe the 2020 GDP growth target will be set at six percent, and the actual figure is likely to hit 6.1 percent. First of all, revision to previous GDP calculations based on the data from the latest census will only have limited impact. Upwards revision to the 2018 GDP based on the fourth census resulted in a 2.1 percent increase, lower than the 16.8 percent, 4.4 percent and 3.4 percent upwards revisions following the previous three censuses respectively. Different from the first three censuses, the latest saw a lower adjustment of the 2018 secondary industry GDP for the first time, which might have cancelled out the incomplete evaluation of the tertiary industry. The third census saw an average upwards revision of only 0.11 percent to the actual GDP growth for each year in the 2009-2013 period, and the increase based on the fourth one might be even smaller. If the average upwards revision to annual GDP growth in the 2014-2018 period is around 0.04 percent, growth target for 2020 should be at least 5.92 percent in order to double economic size. Thus we put the government target at around six percent. Considering the facts that actual growth over the past five years were all slightly above targets and the country’s economic situation should improve following countercyclical adjustments and a relaxed trade dispute, we forecast an actual growth rate of 6.1 percent.

GREATER INFRASTRUCTURE INVESTMENT

Tax cuts and the downward pressure have been holding back China’s tax revenue growth. With fiscal expenditures remaining at the usual level, the government, especially those at local levels, is under pressure to maintain a balance. We believe that the actual volume of reduced tax and fees in 2019 far exceeded the two trillion yuan promised earlier last year. Official figures show that China's fiscal revenue increased 3.8 percent year on year in the first 11 months of 2019, down three percentage points from the year before, signaling great difficulties in meeting the 2019 budget. Taking into account greater spending in poverty relief, innovation, transportation, environment, education and other key fields, the country’s 2020 deficit might rise slightly to three percent, an increase of 400 to 500 billion yuan (58 to 73 billion U.S. dollars) to 3.16 to 3.27 trillion yuan.

Future fiscal policies will continue to focus on special local government debts, with a quota estimated at 2.8 to 3 trillion yuan. This quota might increase if the downward pressure turns out worse than expected. With a series of major projects ready for launch this year, it will play a notable role in boosting infrastructure investments. Consequent boost to the economy should take effect in the second quarter.

Greater infrastructure investment will lead to rebound in investment on fixed assets, shouldering a crucial role in the maintaining of steady economic growth. Key fields as beneficiaries will include railroad, logistic networks, 5G, artificial intelligence, cloud computing, urban and rural upgrades. We estimated that proactive fiscal policies in 2020 will lead to a roughly 6.5 percent growth in infrastructure investment.

MONETARY EASING

Caught between the dual pressure of inflation and struggle for steady growth in 2019, China’s central bank might follow a more focused approach oriented on steady growth in the coming year, with a stronger signal for monetary easing. It is evident in the statement of the just-concluded central economic conference that switched from the previous “appropriately loose or tight” to “flexible and appropriate” when describing the country’s monetary policy. As structural inflation has limited impact, commodity prices should go down in the later half, providing room for monetary policy adjustments.

We forecast two or three instances of required reserve ratio (RRR) cuts this year, with an altogether 150-bp reduction. Compared with the U.S., Japan and Europe, China’s required reserve ratio is relatively high and has room for cuts. Considering greater quota for local government debts this year, the cutting might also prove necessary for the country’s monetary policy to ensure ample liquidity.

More efforts will be made to improve and reform the country’s loan prime rate (LPR) in a bid to increase the role of market forces in determining rates and lower financing costs to the real economy, with the one-year medium-term lending facility (MLF) likely to drop 20 to 30 basis points. In 2020, the central bank might lower the MLF interest rate four or five times, each in a quarter by five basis points.

COOLER PROPERTY SECTOR

Real estate policy will remain tight in general but might loosen moderately in some smaller cities. The sector will play a key role in backing steady economic development in the long run as it has done before. Between Jan. and Nov., real estate investment grew at a speed of 10.2 percent, while both construction and newly-developed acreage grew faster and more resilient than expected. It is reiterated in the central economic conference that “houses are for living, not speculation.” It is also stressed that real estate policy should differ in accordance with every city’s own unique situations, with a special focus on stable land prices, home prices and expectations. Thus, some local governments where demand is higher might relax control and allow some room for price fluctuation.

While the overall policy still tends to be tight and stability-oriented, real estate companies might see their financing relieved somewhat as monetary tools enhance liquidity and credits environment improve. We estimated that China’s property sector will cool further in 2020 in terms of new constructions and investment, but not significantly, as some large cities with huge population flows and strong demand of housing improvements might see some levels of rebound.

REBOUND AS DISPUTE QUIETENS

The phase-one deal will help stabilize Sino-American relations in the short run, but the road might turn bumpy again in the later half. While the agreement includes the U.S. withholding tariffs, it does not touch on its sanctions on a list of Chinese companies that include Huawei and ZTE. As phase-two negotiations deepen, core conflicts will become more obvious. As solutions are still out of reach, the dispute will remain a complex interplay in the long run. It is our forecast that the U.S.-China trade tie will continue to swing back and forth, and even tariffs that have been scraped might come back again in the future.

However, before that, a temporarily stable US-China relations will lead to a manufacturing rebound following dwindled confidence and sharp investment decline last year. It is worth noting that many manufacturing enterprises are nearing the end of their inventory cycles and will have to resupply this year, which is good news for investment.

Fruitful negotiations will also help stabilize commodity prices and boost spending. Dragged down by automobile sales’ negative growth, 2019 was a truly weak year in terms of consumption. Under the combined influence of growing leverage ratio of residents, unstable employment, loaning control and other factors, Chinese residents’ spending power and expectations will remain weak in the near future. With China promising to buy more agricultural goods and import more American products and services in the coming two years, the phase-one agreement will help rein in prices and boost spending. In addition, a series of policies to boost automobile sales are taking effect and might bring it back to positive growth. Meanwhile, a warming property sector will also have an active chain effect on the performances of house remodeling, furniture, electric apparatus and other industries. In general, we estimate spending growth at nine percent in 2020.

TFP IS THE KEY

There are still multiple issues challenging China’s economy in the long run. For instance, agriculture takes up 27 percent of labor forces but only contribute seven percent GDP. In 2035, the two figures will drop to three percent and four percent respectively. It means 20 to 25 percent of the current labor forces in agriculture will need to switch to high-end manufacturing and services in the coming 16 years, which is a daunting task. Meanwhile, 23 percent of the Chinese population will be 65 or older by 2035, which will lead to lower deposit ratio and profound changes in spending structures. This, in turn, will wreak havoc in many industries and affect the country’s investment-driven growth.

Total factor productivity (TFP) will be the crucial factor that determines whether China’s economy can successfully transition from high speed to quality. Forty years into the country’s reform and opening-up, China’s TFP level is now 43 percent that of the U.S., a feat in and of itself. However, according to our calculation, China might have to maintain an annual TFP growth that is 1.95 percentage points higher than the U.S. in order to achieve a reasonable 65 percent by 2035 when the country should basically realize socialist modernization. How to find and unleash new growth drivers will be the key.

Along with high-tech infrastructure construction that includes 5G base stations and cloud computing, industrial digitalization will provide ample room for TFP increase. More independence in developing key components and core technology in key fields such as plane engines and integrated circuits will also help boost TFP. In addition, more efficient distribution of resources as a result of better reform and opening-up will also help the country achieve faster TFP growth.