Previous Quarterly Editions
Expropriation Risk: 60 62 64 67 Political Violence Risk: 42 43 49 45 Terrorism Risk: 32 32 32 30 Exchange Transfer and Trade Sanction Risk: 51 50 53 56 Sovereign Default Risk: 40 40 43 43
TREND ▲ OUTLOOK ▲
The COVID-19 pandemic has not only accelerated the deterioration in relations with the West but also radically worsened the outlook for China’s economy in the second half of 2020. This year, for the first time, the government has not set a GDP growth target. However, having been first to experience the economic disruption of COVID-19, China also hopes to be the first to emerge from the resulting downturn. Figures for the second quarter, released in July 2020, shows a year-on-year growth of 3.2% and a quarter-on-quarter growth of 11.5%. This puts China back on track for modest GDP growth for 2020, but the recovery is unbalanced as supply is outstripping demand, especially among consumers. There has been no boom in post-lockdown expenditure despite reports that local governments in some 50 cities have been trying to stimulate spending on dining, shopping, and recreation. This imbalance will create deflationary pressure and could encourage trade protectionism. The official urban unemployment rate of 5.9% in May 2020 almost certainly understates the reality significantly, in addition to that, weak export demand will probably cause further job losses in the months ahead. One area that has grown sharply with COVID-19 has been e-commerce. China already accounted for almost half of all global e-commerce sales going into the crisis. The three largest retail platforms, Alibaba, JD.com and Pinduoduo, look set to end the year with 85% of an expanding market expected to be worth two trillion USD in 2020. A survey by McKinsey indicates that some three-quarters of households bought groceries online during the pandemic and many will continue to do so. However, one consequence is an increase in the extent of household debt, which was already approaching 60% of GDP last year. In general, the government has emerged from the crisis well, with criticism easily countered by reference to arguably greater failures in Western democracies. This argument also helps cast President Xi as the capable leader who led China to victory through the pandemic, diverting attention from his failure to prevent the disaster in the first place. There is no sign that his power has been shaken or that political enemies are poised to seize an opportunity to attack him. The new national security law for Hong Kong has contributed to the worsening of relations with the West. Ironically, however, Hong Kong’s financial sector may benefit from deepening US-China tensions as Chinese companies make greater use of it to access global capital, while new requirements from their home countries may make it difficult for US and UK firms to preserve all of their operations in Hong Kong. The EU and China still say they hope to conclude a Comprehensive Agreement on Investment by the end of 2020, but the prospects are not good now that the pandemic has exposed Europe’s dependence on China in crucial areas like medical equipment, as well as highlighting the vulnerability of European firms being taken over by Chinese ones. As a result, the EU has begun to develop unilateral measures to address what it perceives to be an unfair economic relationship. In July 2020, the UK banned its domestic telecoms providers from buying new Huawei 5G equipment from the end of 2020 and obliged them to remove all of the firm's 5G kit from their networks by 2027. This reversal of a previous stance on Huawei will appease Washington and is likely to continue regardless of who wins the presidency in November 2020. Japan is also aligning more firmly with the United States and its allies at the cost of relations with China, which continues to send vessels into waters near the disputed Diaoyu/Senkaku islands. The tension between India and China, along their shared border in the disputed Kashmir region, escalated significantly with the deaths of soldiers from both sides in an incident near the Galwan river in June 2020. Both sides seem keen to calm the situation but this remains a potential flashpoint if not properly managed. Meanwhile, both China and the US will increase their presence in and around the South China Sea, aiming to show that their armed forces have not been weakened by the pandemic crisis. Rising Chinese defence spending continues to run well ahead of inflation.
A growing number of non-Chinese companies face new political risks as a result of the Hong Kong security law and this will lead some to relocate to other regional hubs such as Singapore and Taipei. Leading US tech companies including Google, Facebook, and Twitter (all of which are banned in mainland China), say they will not be processing data requests from Hong Kong authorities until they have evaluated the implications of the new legislation. Microsoft has taken the same position and Apple may follow suit, although neither company is banned on the mainland. At the same time (as Beijing forcefully notes), Chinese technology firms such as Huawei and social media platform TikTok face bans in their overseas markets on security and privacy grounds.
TREND ▼ OUTLOOK ▼
Hong Kong’s National Security Law came into effect on July 1 2020 and the first arrests of protesters under its provisions came the same day. The law will have a significant chilling effect on demonstrations, although mainstream and moderate opposition groups will continue to operate, and the media and judicial systems remain far freer than in mainland China. However, visits to Hong Kong by foreign politicians, activists and journalists may become more difficult.
The COVID-19 pandemic has prompted China’s tech sector to focus resources on the rapid development of new surveillance technologies. At the beginning of the crisis, it became clear that facial recognition technologies could not handle the sudden and widespread use of face masks, but new algorithms have since been developed that can identify individuals wearing face masks and the Ministry of Public Security is already using them on a large scale. The government is fully aware of the potential to use these social monitoring systems in an anti-terrorism context.
Until now, US policy has treated Hong Kong as separate from China for trade purposes and it has not been subject to the Trump administration’s tariffs on imports from China. But in July 2020, President Trump signed an executive order removing Hong Kong's special trading privileges. As a result, firms could end up caught between penalties for violating US sanctions and Chinese penalties for complying with them. The central bank continues to inject liquidity into the economy by lowering reserve requirements and its re-lending rates with the aim of increasing lending to small companies.
TREND ► OUTLOOK ▲
Beijing accepts that a much-expanded budget deficit is now both necessary and inevitable. Even before the impact of COVID-19, the combination of rising debt and slowing growth meant that at some point China will have to sacrifice a portion of its growth to reduce its debt burden but, for the short-to-medium term, the emphasis is now firmly back on using debt to sustain growth.
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