Balancing Growth and Security Will Define the Chinese Economy

On the eve of China’s National People’s Congress (NPC), many will be watching for signals on the economy and anticipating the new economic team at the vice premier level. While those aren’t trivial, what will be equally telling about the new leadership’s priorities lies in another key item on the docket: governance restructuring in finance and tech.

The elevation of this agenda, which took place at the 20th Party Congress second plenum last week, reveals that the political consensus has clearly shifted from prioritizing economic growth to one that equates economic security with national security. This is, ironically, also the bipartisan political consensus in Washington, DC.

This tension between growth and security will likely run through Xi’s “state of the union” (SOTU) address and will have a lasting impact on the Chinese economy beyond 2023.

On the one hand, cognizant of investor skepticism of the Chinese economy, Xi’s SOTU will almost certainly lean into confidence-boosting rhetoric on growth prospects and convey messages of policy stability. To be sure, the Chinese economy appears to have recovered rapidly after abandoning Zero-Covid, as we had forecast, which will lend credence to the message of confidence.

On the other hand, Xi will have to thread the needle by trumpeting economic security to justify anticipated changes that will essentially grant the Party significant control over key growth sectors.

For Xi, this is a matter of national security. That is, the economy must be reorganized for resilience and security to confront protracted competition with you know who. And finance and tech are two sectors where the top leadership feels most vulnerable.

That vulnerability fundamentally stems from years of misallocating capital that have led to mounting debt and waste. Covid and the property bust have only further revealed how shaky local government finances have become. As such, Beijing has to come to terms with the fact that whether it’s to support growth or bail out local governments, it has to do the heavy-lifting on spending.

At the same time, Beijing will also need to spend heavily on industrial policy to secure critical technologies and supply chains in the name of “self-reliance”—a mirror image of the US approach. Intensifying US efforts to slow China’s technological advancement, including recent export controls on the biotech sector, have certainly shaped Beijing’s views. From Xi’s vantage point, there is no end in sight to export controls and the notion of a “small yard” on technology controls might as well be fantasy.

Being stymied by you know who is an obvious catalyst for retooling its approach, but Beijing has also been frustrated by suboptimal outcomes in the tech sector. Hundreds of billions in chip subsidies later, China has been left with cases of malfeasance in the sector and has not materially closed the distance on the leading edge—results that do not sit well with Zhongnanhai.

So, spending on tech self-reliance and provincial bailouts is no trivial matter, and from Zhongnanhai’s perspective, this cannot be left to the finance and tech sectors’ own devices. In fact, the Central Commission for Discipline Inspection, the Party’s internal watchdog, has already thrown shade at the finance sector, criticizing it for “worshipping financial elites.”

That is a not-so-subtle dig at these sectors for not putting national interests above their parochial interests, instead leaving in their wake rising debt and no chips. What they need is discipline to march to the same drum beat and spend money in the “right” things. Who can impose this discipline? In China’s system, the Party itself is the only choice.

Herein lies the logic behind expected restructuring that will likely put the finance and tech portfolios under Party control instead of the State Council. In practice, this will likely take the form of creating new “central leading groups” or reviving old ones such as the Central Financial Work Commission. Moreover, these will likely be headed directly by a member of the Politburo Standing Committee (PBSC), signifying their importance (the tech portfolio could go to Ding Xuexiang, the only technocrat on the PBSC).

Whatever the configuration of the new central committees or leading groups, they will receive the highest political backing and will likely have direct control over funding, especially for determining how money gets spent on industrial policy. They will also likely play a role in pooling talent and other resources to focus on specific projects.

On chips in particular, the Party will likely push for more consolidation in a bid to make the sector more competitive. For instance, China’s flagship semiconductor firm SMIC is just 1/10 the size of Taiwan’s TSMC by revenue. Put another way, the Party wants these companies to quit competing against each other and instead unify to compete against you know who.

On finance, the approach is effectively aimed at making state banks more reliable and pliable fiscal instruments. Although state-owned, these banks operate with a commercial orientation and don’t always fall in line behind the center’s priorities. While the State Council’s China Banking and Insurance Regulatory Commission will still nominally be the banking regulator, it will be answerable to Party central, likely also at the PBSC level.

In organizing the economy around security, the operating principle becomes “control,” whereas “competition” is the operating principle when the economy is organized around growth. China still absolutely needs growth to achieve that elusive prosperity, but its vulnerabilities dictate that security gets equal attention. How the politics of balancing competition and control play out will define the Chinese economy’s prospects in coming years.

Damien Ma is the Managing Director of MacroPolo. You can find his work on energy, politics, and other topics here.