Why investors should care about China’s Communist Party congress

The five-yearly meeting to be held next month will see personnel changes in the top leadership that will have significant implications for economic policies, in particular the future of the country’s reform push

PUBLISHED : Wednesday, 13 September, 2017, 10:44am
UPDATED : Wednesday, 13 September, 2017, 10:37pm

Despite being a one-party state, China does have a political cycle, which turns every five years. The event that marks the turning point of the cycle is the Communist Party of China’s party congress.

This year the party will host its 19th congressional meeting on October 18th. These meetings are important political events, as they often lead to significant changes in the party leadership and macro policies.

At the 18th Party Congress five years ago, for example, the leadership of President Xi Jinping and Premier Li Keqiang was established, and an ambitious plan to reform the economy and the political system, which included for example the anti-corruption campaign, was introduced. Significant policy changes have ensued since then, leading to profound impacts on the economy, the market and society at large.

There are two reasons investors should pay attention to this year’s congress. First, up to five members of the seven-person Politburo Standing Committee are due to retire and their positions will be filled by the next generation of leaders. The committee represents the pinnacle of the communist party leadership and the very top of China’s decision-making bodies. A major reshuffle in its composition will have significant implications for macro policies going forward.

Second, important policy signals will be contained in the political report by the party secretary, Xi Jinping. As China enters a critical juncture of development, how the senior leaders address the internal and external challenges will be important for the future of the economy and financial markets.

Our expectations are twofold: on the leadership reshuffle, we expect Xi to seize the opportunity to further cement his supremacy within the party. Recent personnel reshuffles at the ministerial and provincial levels have already enabled him to consolidate power to the extent that few previous leaders have managed to do. We expect this trend to continue in the lead up to, and during, the party congress.

To the extent that this helps to unify and centralise China’s policy decision making, it should be positive for structural reforms in areas where vested interests have slowed the progress so far.

On the party’s long-term policies, we expect Xi to stick to the road map laid out five years ago, designed to make China a greater economic, political and global superpower.

Economically, the report will review the progress made in economic rebalancing and will reiterate the party’s commitment to further reforms. Politically, the party will keep the pressure on in its anti-corruption drive, although the campaign itself may gradually evolve into routine inspections. On foreign policy, we think China’s more assertive stance will continue as it projects itself as a re-emerging global power.

There are risks associated with the changing political dynamics. While the party congress itself may not be a major source of market volatility, we think the risks could lie in the speed and quality of policy design and execution thereafter.

More specifically, the direction of some economic reforms could run contrary to market expectations. Take the state-owned enterprise (SOE) reform as an example. The official approach in recent years has been to build bigger and more dominant SOEs via mergers and acquisitions, instead of shutting down the weak and unviable businesses as the market expects. The party has also implemented changes that strengthen its control of SOEs, whereas the market has anticipated mass privatisation.

It is not at all clear how these differences in reform philosophy will affect the market, as recent announcements on China Unicom and Shenhua – state-owned telecom and utility firms respectively – have met with mixed investor reactions. We think what matters ultimately will be whether the policymakers can prove their case that a centralised SOE structure can still deliver the efficiency and profitability that the reform is supposed to engender.

Ultimately, investors should care about the 19th Party Congress, not because of the political changes per se, but what they mean for China’s economic and financial future. At the risk of oversimplification, we think the issues can be boiled down to two key questions: 1) are Xi and other leaders willing to reform? 2) are they able to reform?

We think the answer to the first question is affirmative given Xi’s actions and rhetoric in the past few years. On the second question, Xi’s political consolidation can clearly improve policymaking at the top, but the quality of execution on the ground may still be challenged by the leakages in China’s vast and complex political system.

Assessing the prospect of reforms will therefore require examining both the political changes at the party congress and detailed policy announcements and implementations thereafter.

Aidan Yao is senior emerging Asia economist at AXA Investment Managers