Myths around China’s revitalization plan
China investors should care about three major numbers this year: 8 percent economic growth, its 4 trillion yuan ($586 billion) stimulus package, and the 10 industries revitalization plan.
The first is the government’s economic growth target and the second is a spending plan to shield the economy from the global financial crisis.
A lot has been said about the first two numbers, but not enough about the third. Indeed, there are at least three misunderstandings about the latter.
First, perhaps misled by the word “revitalization,” many people talk about the plan as if it is another set of recovery measures to boost investment demand. On the contrary, it mostly contains policy measures aimed at reducing supply.
Thus, there is little reason for investors to be disappointed if their favorite sectors, such as property, are not included.
The 10 industries consist nine sub-sectors of manufacturing and one service sector related to that, logistics, which have all been hit hard by the collapse of overseas demand.
The plan is designed to buy time by achieving an orderly reduction in these industries’ capacity, rather than a reduction that could become disorderly if left to market forces, says Qing Wang, Morgan Stanley’s China economist.
But will that work? That leads to the second myth.
The revitalization plan is mostly about state-owned companies buying other state firms and many in China believe that if the government has a wish, it has a way.
But that is not always the case. Companies and local governments try their best to avoid arranged marriages. History has shown that such deals can take as long as a decade to complete.
In the current economic environment, designated acquirers won’t be interested in taking on more workers and equipment and local governments hate to lose tax revenue from factories on their turf.
Even if the government can drive consolidation, they cannot successfully compel integration, thus little synergy can be extracted out of those deals.
Investors should also bear in mind that Beijing’s top priority is to protect jobs. Any company with plans of cutting more than 20 jobs needs to brief local authorities one month in advance. So far, state-owned companies have largely refrained from staff reduction.
But if Beijing does not allow layoffs and closures, then it will be impossible to reduce capacity even after arranged mergers.
So, don’t expect restructuring plans to lead to much capacity reduction, even though it is desperately needed.
A point in question is China’s steel industry. Now the world’s largest steel maker, China last year produced 660 million tonnes of crude steel, 100 million more than demand.
The government has said it will strive to eliminate just 25 million tonnes of obsolete steel production capacities by 2011, only a quarter of the current extra capacity.
The third myth is that all industries are treated equally. The reality is that policies for those 10 industries differ widely.
The priority for the electronics industry is “rural demand,” for textiles “upgrade and move up the value chain,” for nonferrous “contraction,” and for equipment “strengthening and innovation.”
For steel, the focus is consolidation, as demand is not likely to come back soon.
“The best time for steel is over frankly,” said Larry Wan, a fund manager at KBC Goldstate Fund management in Shanghai.
“The government is motivated to cut capacity, but it will face strong resistance from below.”
Beijing also wants the auto industry to consolidate. It specifically said that it wants the top 14 auto makers to be reduced to 10, but has not set a target for capacity reduction. Instead, it is planning for capacity to grow 10 percent annually in the next three years.
The policy for autos is more about stimulating demand. Measures include reducing the sales on smaller cars, providing subsidies to encourage rural residents to replace old vehicles, and making more financing available for consumers.
It might be tempting for investors to dismiss Beijing’s interventionist approach. But they should still study the plan.
The government has never before come up with such a sweeping package that includes detailed long-term goals for so many key industries. It could serve as a curtain raiser of future industrial policies.
“The plans have made it clear where the government support lies,” said Yang Chengzhang, chief economist at Shenyin Wanguo Securities. “Every company needs to position itself according to the plan to get maximum room for its development.”
— At the time of publication Wei Gu did not own any direct investments in securities mentioned in this article. She may be an owner indirectly as an investor in a fund —