China’s zero-Covid strategy risks further economic disruption, report warns

  • China is sticking with its zero-tolerance approach against the coronavirus despite the backlash against the prolonged one-size-fits-all measures
  • US-based consultancy firm Eurasia Group believes the policy is likely to remain for the remainder of 2022 despite warnings of social and economic damage

China’s continuation with its zero-tolerance approach against the coronavirus will deepen consumption woes and supply chain risks, as well as set back the nation’s efforts to deleverage and rebalance its economy, according to a report.

Even though authorities are making efforts to fine-tune containment policies, shifting from massive lockdowns to more targeted, small-scale closures in big cities, the country is still unlikely to pivot away from a very low tolerance for virus cases for the rest of 2022, according to US-based consultancy firm Eurasia Group.

“Chinese policymakers face a risk that if they really do relax the policies significantly, there could be a major explosion in cases,” said Michael Hirson, practice head of China and Northeast Asia at Eurasia Group.

He cited a low level of acquired immunity within the population and the less effective home-grown vaccines against the Omicron variant.

“The bottom line is that the leadership has a tremendous amount at stake politically in ensuring that there are no major setbacks with Covid before the 20th party congress,” Hirson added.

The key party meeting, which is held every five year and is set to take place in the second half of 2022, will be the most important political event of the year and is expected to see a major shake-up of the top leadership team.

But sticking with the stringent containment measures also means more economic disruption will be on the way, Hirson said.

The sectors that will face the biggest hit are also the most important for China’s economic rebalancing – services, small and medium-sized enterprises and consumption, as opposed to industry, large firms and investment, the report said.

Last year, the manufacturing industry accounted for 27.4 per cent of the gross domestic product in China, an increase of 1.1 percentage points compared to the year earlier -reversing a decade-long trend of its shrinking proportion in the economy.

Analysts said the impact of the coronavirus pandemic and China’s strict containment measures on consumption was one of the reasons for the rebound of the manufacturing sector.

Facing mounting headwinds, Beijing has vowed to introduce more stimulus to support the economy by accelerating fiscal spending and allowing the construction of new infrastructure.

“So it means that this year is in some ways going to be a shift back towards an investment and industry-led recovery and really less so driven by a rebound and consumption,” Hirson said.

“The leadership is going to at least have to take a pause on its financial derisking agenda, and that has implications also for how we think about the outlook even beyond this year, for 2023 and 2024, because they will want to make up for lost time.”

But a wholesale return to massive easing as seen in 2008 to 2009, or 2015 and 2016, is unlikely as Beijing will maintain its framework to focus on financial discipline, he said.

Global supply chains will also face more disruptions from China’s containment strategy, although the impact is often very specific to geographies and industries, according to the report.

“The broad data may not reflect the impact on specific industries,” the report said.

“The lockdown in Xian impacted output for semiconductor companies, including Micron and Samsung. Recent containment measures in Tianjin forced a suspension of factories for Toyota and Volkswagen.”

Despite the recent growing discontent domestically regarding the extreme containment measures in parts of the country and a slowing economy that have weighed on people’s livelihood, it is unlikely to lead to acute social stability risks in the country, Hirson said.

“Most of the frustration is vented towards local governments, and the central government can leverage that by swapping out local leaders, like they’ve done so many times,” he said.

“And it’s a way of insulating the central government from this discontent.”

Author: Ji Siqi, SCMP

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