This article was written by David Olsson.
China's annual National People's Congress parliamentary session will take place in March to approve the country's social and economic development plans for the period 2021-25.
This 14th Five-Year Plan (Plan) will be released against a backdrop of a challenging domestic economy, an increasingly complex international environment, and China's plans to play a bigger role in the global economy.
An outline of the Plan was released late last year[i], so the broad direction is clear. It is ambitious and confident, covering climate, tech self-reliance, promoting domestic demand (featured in the 'dual circulation' strategy) and much more. It marks a fundamental shift to China's economic trajectory, setting out a framework for how China can draw on domestic sources to sustain its growth.
In this update we set out our views on key themes that we expect will shape and underpin the execution of the Plan, and some implications for foreign businesses.
But first, some context…
China plans its economy in five-year increments, and this is perhaps one of the more consequential plans in China's history.
It will be released as China celebrates in 2021 building a "moderately prosperous society in all respects", thus achieving the first of its Two Centenary Goals[ii], and moves towards its second centenary goal of building a "modern socialist country" by 2049 so confirming its status as a fully developed global economy.
To reinforce this longer-term intent, the outline Plan was accompanied by Vision 2035, a blueprint for China's economic trajectory which highlights China's longer-horizon goals including self-sufficiency in key technologies, a fall in absolute carbon emissions, a universal coverage of basic public services and a 2035 gross domestic product (GDP) per capita on par with "moderately developed countries" (which is generally estimated to be in the US$20-30,000 range). The 14th Five-Year Plan is the first building block to achieve this vision.
…and a reality check.
When the 14th Five-Year Plan is released it will be big – expect thousands of pages that will expand upon the themes and goals that have been socialised already.
But we will need to look beyond the issued Plan to understand its detail and assess its implications for foreign businesses.
More detailed plans will follow in the months and even years ahead for major sectors, ministries, state-owned enterprises, provinces, and regions, although drafts of some of those detailed plans already in circulation.
"Dual Circulation" set to be the defining economic strategy for the new era…
The 14th Five-Year Plan adopts the idea of "dual circulation" as its core concept for future economic growth. The term has been around for several years but now features prominently in policy statements.
There is no official interpretation of the policy and we will need to see how it is put forward in the Plan. What is certain, however, are its desired outcomes.
The overarching economic goal is to transform the old growth model to a more sustainable path, in the context of a much more complex domestic and international environment.
In simple terms, the idea is for China to rely predominately on its domestic system (internal circulation) to drive growth but this will be supported by an international cycle of trade and foreign investment (external circulation).
Domestic circulation is expected to focus on:
- expanding, deepening, and strengthening the domestic demand (consumption) by improving the social safety net, undertaking rural reforms, and generally improving people's sense of security such that they are willing to spend money; and
- increasing industrial capacity and productivity by focussing on technological innovation to support domestic growth and self-reliance. Self-reliance in this context is not a push for economic independence, but rather a shift towards a managed integration into global markets and economies that enhances China's development process while allowing it to build its own capabilities and mitigate the risks it sees in a more uncertain global outlook.
External circulation, in the new era, introduces some new concepts. China's engagement with the global economy has to date been seen through the familiar prism of trade (historically exports but with a more recent focus on imports). It is expected that new policies will emphasise Beijing's desire to remain deeply engaged in the global economy, but the way in which this takes placed is likely to be reframed.
We can expect that there will be efforts to maintain and enhance China's support for multilateral trade institutions and a rules-based global trading framework, but with a push for greater recognition of China's role in the global trading system and renewed emphasis on the adoption of Chinese standards and protocols.
It's likely that the blockchain, new technologies and digital currencies will be promoted to create more resilient supply chains, Belt & Road 2.0 is likely to appear (perhaps with a new focus on projects that address some of the global health challenges the world faces).
Mega economic regions, such as the Greater Bay Area in southern China, will take a more visible role as regions for piloting new domestic policies and new technologies, as well as connecting China to the world and the world to China.
…but how it will operate in practice remains to be seen.
China has been attempting to grow the consumption side of its economy for some time. The trend has been generally positive, but to achieve the sort of growth in the domestic economy that will be necessary to 'move the dial' away from the investment and export drivers, will require an economic and social transition on a massive scale.
What is now looming as a burning platform for more decisive action is the far more challenging external environment China faces. Amid a changing relationship with the US and an ageing population, the need to focus on reducing vulnerability to international supply chain disruptions, boosting domestic consumption and productivity, and increasing the sustainability of economic growth is becoming greater.
If this shift occurs, China's sheer size and global engagement will have major and long-term implications for both China and the world.
Increased reliance on domestic supply has the potential to shift China's trade patterns and domestic supply chains and alter the products and services that its consumers and businesses purchase. Productivity growth meanwhile will be supported by an upgrade of manufacturing industries and the development of advanced technologies to reduce reliance on imports and support domestic consumption.
Technology and innovation are elevated to national strategic priorities…
While innovation and technology development are not new themes, the 14th Five-Year Plan elevates them to core national priorities and critical to achieving technological self-reliance.
This marks a significant shift in priorities towards industrial and national security, as well as reduced reliance on tech imports.
The draft Plan does not define which technologies will be emphasised over the next five years nor what precisely it hopes to achieve. No doubt, this will come later as various ministries elaborate on the plan.
But it is clear that investment in technology will go into overdrive and will undoubtedly focus on frontier fields that have already been highlighted for further exploration: artificial intelligence, quantum information, integrated circuits, life and health science, neuroscience, genetics, deep earth and sea exploration, and aerospace technology.
Alongside this, there will be measures to encourage traditional sectors to move up the value chain; strengthening improved farming quality and competitiveness; as well as a greater emphasis on protecting intellectual property rights and talent attraction.
… which is already influencing the global business landscape.
The three major industries that have supported China's rapid economic development in the past - traditional manufacturing, construction, and real estate – are being be replaced rapidly by three new pillar industries: strategic emerging industries, services, and modern manufacturing.
Technology and innovation have become the driving forces for this trend. As an emerging tech giant, China has demonstrated it can be a leading innovator both globally and domestically.
Already China is leading the development of entire new industries (built around digitalisation, artificial intelligence, big data, fifth-generation telecommunications networking (5G), nanotechnology, biotechnology, robotics, and quantum computing), new types of businesses (like electric vehicles, e-commerce and payment systems) and new business models (including new digital business-to-consumer (B2C) business-to-business (B2B) applications and channels).
The impact of these changes, and the speed with which they are occurring, is resonating across the world, bringing both extraordinary opportunities and complex challenges.
China is fast becoming a global hub for accelerated innovation, not just for Chinese companies but for foreign firms wanting to leverage its pool of research talent, cost-effective and flexible R&D capacity, and manufacturing ecosystem to efficiently commercialise concepts and designs into products.
On the flip side, security and privacy risks abound; competing visions of digital sovereignty are impacting supply chains, currency usage and cross border financial flows; and the formation of divergent regulatory regimes is presenting barriers to companies' ability to transfer data across borders and develop globally integrated digital solutions.
Businesses are very much in the crosshairs of these issues, squeezed between conflicting political and policy pressures, public opinions, laws, and regulations.
The challenge ahead for all nations will be to reach a level of understanding and create a common international framework to manage these emerging risks and allow these new technologies and innovations to evolve and be utilised for the benefit of all. The consequences of not doing so could lead to the crippling of global value chains, economies of scale and innovation systems.
Climate change initiatives to support the green economy
China is currently the world's largest energy user with the highest greenhouse gas output. It consumes 50 per cent. of coal produced worldwide annually and is the top importer of oil and natural gas.
Last September, President Xi reiterated the goal that China will reach peak carbon emissions before 2030 and stunned the climate community by pledging that it would become carbon neutral by 2060.
Unlike most nations that have committed to carbon neutrality, China's economy is still growing rapidly, and that growth is not yet uncoupled from carbon emissions. Accordingly, how these commitments are integrated into the 14th Five-Year Plan will attract global attention. In many respects, the Plan will be seen by many as a test of whether economic growth and deep decarbonisation can be achieved simultaneously.
The transition to a zero-carbon economy will require a consistent, all-of-government effort. Net zero will have to serve as a guiding principle for policymaking that is comprehensively embedded into structural reforms, investment policies and innovation priorities.
Particular attention will be paid to binding targets on carbon intensity, the proportion of non-fossil fuels in the primary energy mix, and coal power capacity, in both the general 14th Five-Year Plan and the more specific plans that will emerge in due course.
These de-carbonisation policies will have the potential to generate growth and employment in China and accelerate clean energy progress in the rest of the world.
China's financial reforms likely to accelerate
Financial sector reform has been a key component of China's multi-decade economic restructuring plan. Indeed, while the speed of the reform process has at times lagged China's obvious China's commitment to financial market reforms, the 14th Five-Year Plan will send clear signals to the international community that China is determined in efforts to open its financial markets to the outside world.
There already exists a broad reform agenda, and an understanding of the sequencing required to bring about change, so it's unlikely that the new Plan will deliver major new developments. However, given the crucial role that the financial markets play in supporting the domestic economy, and in linking China to global capital markets, the likelihood is that this trajectory may even accelerate.
The opportunity for foreign financial institutions and funds to participate actively in this next stage of market expansion in China is something that will undoubtedly be explored by those firms. Sensing this, the flow of investment capital into China from investors in the US, Europe and elsewhere reached record levels in 2020, although aggregate foreign participation in the domestic markets is still relatively low.
The new Plan also reaffirms Beijing's long-standing desire for its currency, the renminbi (RMB), to become a widely trusted and globally traded and used currency. The disruption of global trade flows and geo-political tensions have hampered the RMB internationalisation process over the last year, but the Plan is likely to contain a range of measures to reinvigorate this process, particularly through efforts to support its use in Asian regional trade and within Belt & Road countries (where the RMB is already widely used as an invoicing and payment currency).
Supporting the RMB internationalisation process, China's central bank is also moving closer to a full roll out of its sovereign digital currency, with tests having already been conducted in pilot cities. Sovereign digital sovereign currency is one that is used only electronically and (unlike other cryptocurrencies) is backed by the full faith and credit of the country. Central banks around the world are investigating its feasibility, but China remains well advanced in its plans. Its adoption will certainly accelerate the use of RMB in cross-border financial flows. The longer-term implications of this will be significant.
Megacity regions herald a new era of urbanisation
The trend towards urbanisation has been underway for decades and recognised as crucial in supporting China's economic growth strategies. That trend still has a way to go with forecasters suggesting that the urbanisation ratio could increase to 75 per cent. by 2030 (from 60 per cent. at present), translating into 220 million new urban dwellers.
The 14th Five-Year Plan is expected to highlight a new direction for urban growth, with efforts to encourage a significant proportion of those moving from rural areas (perhaps as much as half) to settle in five super-city clusters.
The process is already underway. The Greater Bay Area (GBA), the Yangtze River Delta, the Beijing-Tianjin-Hebei region (Jing-Jin-Ji), the Mid-Yangtze River area and the newly announced Chengdu-Chongqing area are the top five clusters that will be promoted to be power-house regions designed not only to promote domestic circulation but also act as bridges to support external circulation between China and the rest of the world.
The central and provincial governments are already making massive investments into these regions to support new high-speed rail, autonomous electric vehicles, smart grid technology, shared mobility, powerful 5G networks and big-data technologies.
For many observers, the development of the GBA offers insights into this new urban growth strategy. It features prominently in the 14th Five-Year Plan as an initiative to drive deeper regional economic and financial integration between key cities in the Guangdong Province (including Guangzhou and Shenzhen) and Hong Kong and Macau SARs.
With a population of around 70 million people, a GDP equal to that of Australia, the highest per capita GDP in China, the GBA is already moving to become an important global centre for advanced manufacturing, the home to some of the most innovated technology companies in the world, a centre for finance, technology and innovation, trade and tourism and leisure, with Hong Kong SAR seeking to cement its role as the go-to financial centre for capital flows between the markets of mainland China and the global economy.
China sees itself at the centre of Asian growth
China is already deeply enmeshed into the global economy.
The outline 14th Five-Year Plan calls for "comprehensively improving the level of opening to the outside world and the promotion of trade and investment liberalisation and facilitation" and provides indications around how China sees the world and its emerging role.
While the global environment continues to evolve and many views abound, there is a growing consensus that China sees itself moving into a new paradigm where the global system is divided into three main regions: Asia, North America and Europe, with each region being led by a super-regional power.
This trend is already evident in Asia, with the ASEAN region surpassing North America, in 2019, as China's second largest trading partner, after the European Union (pre-Brexit), underscoring the huge potential of economic linkages in the Asian region.
Apart from the trade linkages, China engagement with the ASEAN region is developing rapidly. It is seeking to cooperate to support digital trade, and to promote its Health Silk Road initiative as a public health mechanism to fight the COVID-19. Beijing is also encouraging Chinese enterprise to invest in the region and the new Hainan Free Trade Zone is expected to have strong regional focus.
At more formal level, the full significance of the recently signed Regional Comprehensive Economic Partnership (RCEP) between China, ASEAN nations, Australia, Japan, and New Zealand has yet to emerge, but over coming years this is likely to stimulate intra-Asian economic integration with China a key driver of economic growth. It's also signed an investment agreement with the EU and expressed interest in acceding to the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP). RCEP and CPTPP belong to a more advanced category of 'next generation' free trade agreements that regulate not just the free flow of goods and services, but also encompass a set of political and social objective related to free markets and fair competition.
China's size matters a great deal for the world in coming decades. China will be vying for economic parity with the U.S. in 2035, if not before.
But it's not just size that matters. The structural economic transformation that China is undergoing matters even more deeply to the future world.
China is preparing for a fundamental shift of its economic growth drivers from traditional methods of production to innovation and technology. The growth of its "new economies" - new industries, new types of business, new business models - is growing exponentially and are influencing economies globally.
China's strategic interests are becoming clearer and it is gaining further confidence in its ability to engage more proactively in global affairs.
How nations and companies chose to respond to these changes will be matter for them to decide, but what is important is that we don't cut ourselves off from an understanding of China's new economic direction and priorities. The upcoming 14th Five-Year Plan and Vision 2035 are a good place to start.
For more information about these developments and how it might impact your business, King & Wood Mallesons will be issuing further client alerts as the details of the new plan emerge, and plan to host round table discussions. If you are interested in knowing more or would like to register your interest in joining one of our invitation only roundtable events, please register here.
[i] The Communist Party of China (CPC)'s 19th Central Committee held its 5th Plenum in late October 2020 to deliberate on a draft of the 14th Five-Year Plan for 2021-2025 and economic goals out to 2035. The annual Central Economic Work Conference reviewed the plans in December 2020 ahead of the scheduled ratification of final versions at the annual session of China's legislature in March 2021.
[ii] When Xi Jinping became President in 2012, he set the 'Two Centenaries' as China's future development goals. The First Centenary was to become a "moderately-well off society" by 2021 – the centennial of the establishment of the CPC. The concrete goal here is to double the 2010 levels of both China's per capita income and GDP by 2021. The Second Centenary is to become "a modern socialist country that is prosperous, strong, democratic, culturally advanced, and harmonious" by 2049 – the centennial of the founding of the People's Republic of China. The Two Centenaries are linked to President Xi's concept of the 'Chinese Dream' – the prospect of a China that is both internationally strong and domestically modernised.
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