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China 2020-2035 Xi’s Great Dual Circulation

Updated: 7 days ago

Key Terms: China, USA, Domestic Demand, Trade War, Globalisation, 2035

Key Sources: Reuters, CSIS, SCMP, Bloomberg, CGTN, Global Times & Asia Times


Dual Circulation: “A two phased approach to transform China's export-led economy to one driven by domestic consumption.”

China’s politburo has proposed a so-called “dual circulation” model of growth to steer the economy, the sources said, which would prioritise “internal circulation” to boost domestic demand and be supplemented by “external circulation”. Policy insiders and government advisers said the emphasis signals a strategic shift to local demand and technological development although domestic supply chains would be built partly with the help of foreign investment.

China had already been trying to rebalance its economy towards consumption-led growth from exports and investment. Last year, total exports and imports accounted for 32% of gross domestic product (GDP), down from a peak of 64% in 2006, according to government data.

“We will rely more on domestic demand as foreign trade will decline, and the United States is imposing a tech blockade,” said a second policy insider. The “dual circulation” strategy could become a key priority in the government’s 14th five-year plan (2021-2025), which is expected to be discussed and endorsed by top leaders at a key Communist Party conclave in October, policy sources said.

The plan is likely to be unveiled during the annual parliament session in early 2021, they said. The current five-year-plan, which ends this year, focuses on moving away from traditional and polluting industries, boosting technological innovation, and building a moderately prosperous society.


BULL CASE

  • China is able to generate enough domestic demand to replace the current ~18% export driven growth within its economy. (Key data: Household Consumption | Household Savings | Inflation & CPI)

  • A Stronger focus on high end industrial manufacturing enables greater growth in State Owned Enterprises (SOEs) which in return act as a positive (continuous) source of fiscal stimulus for China’s economy. (Key Data: SOE Quarterly, Interim & Annual Reports)

  • SOEs under a more rigorous management structure are able to resemble the ‘successful’ transition of conglomerates in Japan and South Korea. (Key Data: SOE Quarterly, Interim & Annual Reports)

BEAR CASE

  • The saving mentality remains strong as the general public upholds its current pessimistic outlook for China’s future. (Household Savings)

  • China falls into the ‘low-mid’ income trap and enters into a phase of stagnation up until 2035. (Household Income)

  • Retail Growth remains passive as general inefficiencies embedded within SOEs are magnified. (Inflation | PPP | GNP/GDP)

  • Twin deficit: enlarged current account deficit, CNH suffers It greatest devaluation {depends on the fed’s future as well}, Capital account deficit as the nation’s financial assets’ capacity to generate value is lower than a global average. (Current Account | Capital Account)


This new worldview sees the continued decoupling of global supply chains as an enduring trend, and so Beijing now seeks to attempt a new “big thing”—balancing emphases on both internationalization and self-sufficiency that marks China’s own version of “hedged integration.” This model entails engaging international capital, financial, and technological markets when advantages can be gained while simultaneously bolstering indigenous capabilities to avoid over reliance on the global economy—due to national security concerns or the vagaries of global economic cycles.


The high-profile nature of the DCS policy formulation, which at present is short on concrete details, is redolent of “supply side structural reform,” the 2015 framework that drove economic policy for the past five years and is now enshrined in the CCP Constitution. When supply side structural reform (SSSR) was first introduced, it was often dismissed as a nebulous and vacuous policy phrase, one that would lead to few if any concrete changes to the policy trajectory. In the intervening years, however, the SSSR framework brought forth sustained efforts to reduce capacity in China’s oversupplied industrial sector—which played a major role in sending prices of key commodities soaring in late 2016 and throughout 2017—as well as the aggressive financial de-risking campaign that has dominated the economic and financial policy agenda since 2018.


The dual circulation strategy appears to be a similarly consequential policy pivot. It comes at a time of deep economic uncertainty, it is the brainchild of Xi Jinping’s top economic adviser Vice Premier Liu He, and it is largely being communicated as a natural extension to SSSR itself.


At its core, dual circulation is a strategy to fortify China’s economic resilience in the face of global economic undulations and a general retreat from globalization among Western democracies. As such, Beijing sees the framework as a way to guard against economic exposures to the external economy (think semiconductors in the extreme, but at a more basic level, the current downturn in global demand, which is slowing China’s recovery).

As part of the effort to reduce external vulnerabilities, one key element of the DCS is to focus on both the strengths and weaknesses of the domestic economy—consolidating the former and addressing the latter in order to improve economic resilience and self-sufficiency. That means further stoking demand from China’s domestic economy and gearing Chinese producers to meet that demand with expanded output for the domestic market rather than for export—all while finding ways to reduce reliance on external inputs in key areas, including energy, technology, and food.


There is currently a high-profile public debate among Chinese policy advisers of the DCS as they seek to help the leadership fill in key details of the now broadly defined framework. Some are pushing for an emphasis on the international “circulation” as a way to keep China’s economy oriented toward reform, while others in the national security establishment argue that China’s long-term prosperity depends on delinking from portions of the global economy that can be exploited by hostile powers (i.e., the United States). And while the specific methods of execution will take time to cohere, some key principles are starting to emerge.

One of those principles, as articulated by former central bank adviser Yu Yongding, is to reverse the recent emphasis on the services economy and to focus more on ensconcing China at the high end of the manufacturing value chain in a way that better serves the domestic market. This would entail, according to Yu, even more emphasis on industrial policy, including Made in China 2025. According to Yu, “In the past, we emphasized an export orientation because [we believed] that export-oriented countries, especially small countries, were successful. In the future, we need to use more power to boost import substitution. Made in China 2025 is a reflection of this aspiration, and support for this aspiration should be accorded.”


If the DCS begins to bear fruit, the impacts on the global economy would be momentous. While Chinese policymakers and commentators have been clear that the DCS does not mean a full-scale pivot away from global economic integration or reliance on external demand, even a marginal shift by China away from its focus on mercantilist export practices could fundamentally reshape global trade and investment flows. But perhaps more importantly, Yu’s argument that China should renew its focus on high-end manufacturing—rather than services and consumer sectors—may mean that China will seek to replicate the German manufacturing model. If successful, such a move would represent a major challenge to industrialized economies. China’s scale of production could begin to disrupt a range of new market segments—as has happened with solar and lithium batteries in the past.

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