China's economy recovers - tensions with USA persist

Normality is slowly returning to China after the Corona shock. Domestic travelling is rising, events are taking place again and domestic demand is boosting the luxury sector. However, tensions between China and the US remain. 

DJE analysts have been travelling to China for years to meet business representatives and experts on site and to gain new knowledge of the world's second largest economy. Due to Corona a trip in 2020 was not possible but there were virtual alternatives for the most important investor conferences in the Asia-Pacific region.

Stefan Breintner, Deputy Head of Research & Portfolio Management provides an overview:

China's return to normality

China's economy continues to recover from the Corona shock of the first quarter or first half of 2020, with virtually no new infections in mainland China in recent months after reaching a record high in February. As a result life is returning to normal in more and more areas. Stationary retail sales are recovering, although online sales continue to grow much faster. Restaurants in larger cities are often back to more than 90 percent capacity utilization, major events such as weddings or trade fairs are taking place again and travel activity is also increasing.

Macao could soon benefit from an increase in domestic tourism

However, due to the ban on foreign travel Chinese people mostly take short trips within China or within the respective Chinese province. Luxury hotels are preferred accommodation as most tourists think that they have a better hygiene concept. Regions that are currently benefiting greatly from this are Hainan, for example, and probably soon the Macau Special Administrative Region which is perfect for short breaks. Most visitors to Macao come from the neighboring Guangdong Province which recently lifted the quarantine obligation on re-entry from Macao.

As a result it is conceivable that during the "Golden Week" in early October there will be a significant increase in visitor numbers and thus in gambling revenues. Macao-based casino and resort operators would benefit from this, all of them have had very difficult months. Their business figures for the third quarter of 2020 are likely to be poor again - with the fourth quarter showing improvement. In the longer term Macao remains very interesting anyway and it seems realistic that the central government in Beijing has a strong interest in the success of the second Special Economic Zone (SEZ) after Hong Kong. Moreover, they want to avoid popular discontent to avoid unrest like in Hong Kong.

Hong Kong: dampened prospects

The recovery of Hong Kong's economy is expected to take much longer after the Corona measures and the riots. The absence of Chinese tourists and investors from the Chinese mainland is placing an enormous burden on the metropolis. Property prices in Hong Kong are therefore likely to fall further for the time being. From their high the actual transaction prices have probably fallen by more than 20 percent in the meantime.

From today's point of view, a quick recovery of retail sales in 2021 is just as unrealistic as a quick return of tourists from mainland China. Real estate companies with a focus on Hong Kong, operators of hotels or restaurants, and retailers are therefore likely to face a difficult year 2021. In general, the Hong Kong policy of the Chinese central government has a strong backing on the mainland. Mainland Chinese see the protests mainly as an attack on themselves and China. Countries or cities that turn against China are usually avoided by Chinese tourists for years.

Chinese patriotism strengthened under Xi Jinping

The management of the Corona crisis by Xi Jinping and the Chinese central government is also very popular among the population. The leading Chinese virologist Zhong Nanshan is considered a hero in China, while his US counterpart Dr. Fauci was often pilloried by US President Trump. Overall, the Chinese central government and thus the Communist Party seem to have much more popular support than Western media assume or report. Patriotism in China has increased under Xi Jinping.

Rising domestic demand boosts luxury sector

Chinese are generally buying more domestic products, and selected domestic brands are clearly on the rise. This trend is likely to continue which in turn implies headwinds for many Western or US consumer goods manufacturers in the future as their products may be less in demand on the often highly profitable Chinese market. However, manufacturers of high-quality luxury goods are likely to be the exception to this trend. Chinese consumers are generally by far the most important customer group of the large luxury groups. Sales in China are currently booming and expensive handbags & co. are in great demand. While these used to be popular in Milan, Paris, London or New York sales have shifted completely to the domestic market as a result of Corona. Operators of luxury malls in Tier-1 cities such as Shanghai are therefore reporting currently very good business.

In general, growing domestic consumption is likely to be the main driver and at the same time stabilizer of Chinese economic growth in the coming years. Consumption currently accounts for about 38 percent of China's GDP. In western industrialized nations this share is often as high as 70 percent, in the USA it is even slightly higher. By focusing on domestic consumption and specifically promoting specific regions and technologies, China wants to make its own economy less dependent on foreign countries. The promotion of independence should also be a declared goal in the next 14th Five-Year Plan, which will be adopted in March 2021.

Trade conflict USA-China: No turnaround visible

Also under a possible new US presidency of Biden tensions between China and the US are likely to remain. Sooner or later COVID-19 will disappear in China but tensions with the US will remain. However, the tone between the two sides could become more moderate in the event of a Biden election. One of the most important strategic goals in the coming five-year plan, apart from a massive strengthening of domestic demand is likely to be that China will become increasingly autonomous, i.e. hardly dependent on foreign countries, for important (energy) raw materials and for key technological components such as high-performance computer chips. The conflict with the USA is therefore likely to remain focused on the fight for technological leadership in the coming years: "Semiconductors are the battleground" was a phrase that was heard again and again by many experts. The medium to long-term consequences for the chip industry, especially for the large US chip producers (China sales often well over 20 percent), are very difficult to estimate. Should the USA expand its so-called blacklist to include other major Chinese technology companies in addition to Huawei corresponding answers from the Chinese side are likely to follow. South Korean or Japanese chip producers would then profit from this development. At the moment China is strategically very reluctant to respond to Trump's policy but this could change after the US election campaign. 

Increased domestic infrastructure investment

Despite the fact that China has managed the Corona crisis better or more effectively than most other countries and despite the fact that the latest economic data are convincing,there are many uncertainties regarding the expected growth for 2021. Currently, the growth forecasts for Chinese GDP in 2021 are around 8.4 percent (after around +2.7 percent in 2020). In order to ensure growth, the Chinese government will also resort to stimulus measures in 2021. As in many years before many billions of Renminbi will therefore flow into infrastructure projects in the coming year. Many local governments are currently preparing numerous new projects that are to be approved and implemented quickly. China seems to be focusing more on domestic projects and less on multinational projects such as the "Belt and Road Initiative", also known as the "new Silk Road".

Especially promising: renewable energies

In addition to further improvements in transport infrastructure priority is being given to increased investment in the health sector. This sector is growing at about twice the rate of China's GDP. Growth rates in sub-areas such as telemedicine are currently over 35 percent. Investments in the expansion of the nationwide 5G network and in the charging infrastructure for electric vehicles are also high on the agenda. Sales of electric cars in China are expected to grow by around 25 to 30 percent p.a. in the next few years.

Gigantic investments in renewable energies, primarily solar and wind power, are also planned. This seems plausible as it brings us closer to the goal of reducing dependence on energy imports from abroad. The renewable energies or "cleantech" sector is a promising segment. In general, increased infrastructure spending is also accompanied by rising demand for metals and raw materials, which in turn could have a positive impact on the sector of raw materials and basic resources.


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