Outlook on the Chinese Economy - LI Xunlei October, 2015 - HSBC Global Asset ...
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Outlook on the Chinese Economy
LI Xunlei
October, 2015
Summary
1. Chinese Economic Development and Outlook
2. Timetable for Economic Reform in China
3. How Can Economic Transformation Be Achieved in
China?
4. Analysis of Recent Market Volatility
2The Chinese Economy Comes to A Turning Point
Today, the Chinese economy is characterized by “3 transitions”, i.e. slowing economic growth,
“growing pain” caused by economic restructuring and challenges in terms of digesting the
previous fiscal stimulus. The aging population and a dwindling working population in China forced
economic growth to slow down; the massive industrialization drive a few years ago is still troubling
the Chinese economy with overcapacity and excessive leverage; after the demographic dividend
disappeared marking the imminent end of the Late Industrialization period, there’s still a long way
to go for China to complete restructuring its economy.
China’s economy is undergoing “3 critical transitions”
“Changing gear” in economic growth
The “3 transitions”
facing the Chinese Economic restructuring
economy
Digestion of the impact of the previous
fiscal stimulus package
Source: WIND, Haitong Securities Research 3An End to the Economic Slowdown Still Not in Sight
China’s economic growth continued to slow down for 7 years since 2007, and the GDP growth has
slipped from the peak of 14% to ~7%. Retrospectively, China had seen 2 continuous economic
slowdowns in the past, i.e. 1984-90 and 1992-99 that lasted 7 and 8 years, respectively. The 3 rd
economic slowdown, as we’re experiencing today, has thus far lasted for roughly the same length
of time. As for the trough in growth rate, China’s economic growth bottomed at 3.8% in 1990 during
the 1st slowdown, and at 7.6% in 1999 during the 2nd decline. In 2014, GDP growth dropped to a
similar level (i.e. 7.3%), but it’s still hard to tell when economic growth will bottom out in China.
Annual GDP growth in China (%)
18
中国GDP实际增速
Actual GDP growth rate in China
16
7Y slowdown
7年下滑 7Y slowdown
7年下滑
14 8Y slowdown
8年下滑
12
10
8
6
4
2
0
80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14
Source: WIND, Haitong Securities Research 4Industrial Production: Demand Declines across Downstream
Sectors as China Enters the Late Industrialization Phase
Among the factors contributing to the slowing economic growth, demand in all downstream
segments led by real estate and automotive declined across the board. Property sales, in particular,
posted negative growth for the second time, resulting in continuously shrinking industrial growth in
businesses such as steel and cement. A decline in the growth of all industrial commodities
indicates that the Chinese economy has entered the Late Industrialization phase.
Commercial property and auto sales growth (%) Steel and cement production growth (%)
70 35 Steel output
60 商品房销量增速
Property sales 汽车产量增速
Auto sales growth 钢材产量增速 水泥增速output growth
Cement
growth 30 growth
50
25
40
30 20
20 15
10 10
0
5
-10
-20 0
-30 -5
94 96 98 00 02 04 06 08 10 12 14 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14
Source: WIND, Haitong Securities Research 5Consumption: Traditional Consumption Lost Ground
giving rise to New Consumer Spending Patterns
With the arrival of Late Industrialization Phase, traditional consumer goods (i.e. food, clothing and
household equipment and services) only account for a dwindling proportion of the total consumer
spending of Chinese people, while the proportion of new consumer items (transport and
communication, education and entertainment and healthcare), representing the current trends
towards innovation and an aging population, has continued to increase. Food accounts for ~1/3 of
total consumer spending in China. In 2013, urban Chinese consumers spent 34% of their total
spending on new consumer products, higher than that of non-food consumer goods; in rural areas,
new consumer goods take up 29% of the total spending, which is also close to that of non-food
traditional consumer goods.
Breakdown of urban and rural consumer spending per capita in 2013 (%)
50 Transport & Education &
食品
Food 衣着
Clothing 家庭设备用品
Household appliances 居住
Living 医疗保健
Healthcare
communication 教育文化娱乐
交通通信 entertainment 其他
Other
& goods
40 Traditional
传统消费 新兴消费
New consumer 传统消费 New
Traditional 新兴消费
consumer
consumption products consumption products
30
20
10
0
城镇居民人均消费支出结构
Structure of urban consumer spending per capita 农村居民人均消费支出结构
Structure of rural consumer spending per capita
Source: WIND, Haitong Securities Research 6Foreign Trade: Limited Room for Further Export Growth
China currently accounts for over 12% of total global exports. Therefore, its share of global exports
is unlikely to increase further, indicating that the devaluation of Chinese yuan will only boost
Chinese exports to a rather limited extent. Since its entry into the WTO in 2002 until 2014, there’s
been a 6.2-fold increase in Chinese exports, and its share of global exports rose from 5% to 12.4%,
or 1/8. As a result, the room for further growth is relatively limited, and the overall global economic
downturn places extra pressure on Chinese exporters.
Chinese exports as a percentage of total global exports
Chinese exports as % of global
20 全球出口总额（万亿美元）
Global exports (US$ trn) 中国出口总额（万亿美元）
Chinese exports (US$ trn) 中国出口占全球之比（%，右轴）
total (right) 14
18
12
16
14 10
12
8
10
6
8
6 4
4
2
2
0 0
1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
Source: WIND, Haitong Securities Research 7Potential Growth to Slow Down But Stay above 6.5%
in the Next 5 Years
Assuming that China will follow a similar trajectory of economic growth as Germany, Japan and
South Korea, China’s economic growth will then decelerate at a certain point in the future.
According to projections made by economists LIU Shijin et al., CAI Fang and GUO Yumei et al.,
China’s GDP growth will likely slow down in the next 5 years and remain above 6.5%, which is also
the minimum requirement to meet the target of “doubling 2010’s GDP by 2020” set by the 18th CPC
National Congress.
Projections of China’s potential GDP growth (%)
16
China’s potential economic growth (%, CAI Fang, 2015)
中国潜在经济增速（%，蔡昉，2015）
中国潜在经济增速（%，郭豫媚等，2015）
China’s potential economic growth (%, GUO Yumei et al. 2015)
14
中国GDP增速（%）
China’s GDP growth (%)
12
10
8
6
4
1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019
Source: WIND, Haitong Securities Research 8Summary
1. Chinese Economic Development and Outlook
2. Timetable for Economic Reform in China
3. How Can Economic Transformation Be Achieved in
China?
4. Analysis of Recent Market Volatility
9Why Are the Current SOE Reforms Different?
The ongoing SOE reforms are launched against a general background of the “New Normal” of the Chinese
economy. As the reforms entered the “deep water” area, 3 long-term solutions have been proposed: (1)
regulatory reforms – focusing on category-based multilevel regulation, the bottom line is that, while
ensuring leadership by the party, SOEs will be divided into non-profit, special-purpose and competition-
oriented enterprises for which different reform approaches will be adopted, and relevant regulation will be
conducted on all 3 levels, i.e. State-owned Assets Supervision and Administration Commission (SASAC),
state capital management companies and for-profit SOEs; (2) property ownership – the bottom line is to
prevent any losses of state-owned assets, and the mixed ownership reform will be prioritized as the central
issue, where securitization and state-owned assets, introduction of strategic investors and private
investors, and employee stock ownership and stock incentive schemes will be implemented as the key
measures; (3) business operation – SOEs need to improve their business performance, scale up operations
and consolidate their competitiveness by establishing a modern enterprise system.
SOE reforms implemented on 3 levels
Category-based
分类监管
regulation
监管层面
Regulation
Multilevel
分层监管
regulation
Latest
本轮
SOE
国企改革
reforms
Property
产权层面 混合所有制
Mixed ownership
ownership
Business Modern enterprise
经营层面
operation
现代企业制度
system
Source: WIND, Haitong Securities Research 10Guiding Opinions Issued for SOE Reform with Well-Defined
Principles and Objectives
On 13 September, the CPC Central Committee and the State Council distributed the Guiding Opinions to
Deepen State-Owned Enterprise Reforms and set forth the 5 fundamental principles for SOE reforms.
Objectives of the reforms are to achieve decisive results in key areas and key operations concerning the
SOE reforms by 2020, and establish a state-owned asset management system, a modern enterprise system
and market-oriented management mechanisms catering to China’s basic economic system and the
socialist market economy, thereby further rationalizing the structure of state-owned assets in China.
Specific targets include: by 2020, the corporate reform of SOEs will be preliminarily completed; the state-
owned asset regulation system will be further developed; the efficiency of state-owned capital allocation
will be significantly improved; and “party leadership building” will be fully strengthened among SOEs.
Fundamental principles and specific objectives for SOE reforms
基本原则
Fundamental principles 改革目标（2020年）
Objectives (by 2020)
•
•必须坚持和完善基本经济制度
Must adhere to and keep developing the basic
economic system
•
•国有企业公司制改革基本完成
Corporate reform of SOEs will be preliminarily
completed
••坚持社会主义市场经济改革方向
Uphold socialist market economic reforms as • •国有资产监管制度更加成熟
State-owned asset regulation system will be
the general direction further developed
••坚持增强活力和强化监管相结合
Combine efforts to revitalize the economy and • •国有资本配置效率显著提高
State capital allocation will be significantly
•坚持党对国有企业的领导
regulation •企业党的建设全面加强
more efficient
• Ensure the party’s leadership over SOEs • Party leadership building will be fully
••坚持积极稳妥统筹推进
Active, steady and centralized reform strengthened among SOEs
promotion
Source: WIND, Haitong Securities Research 11Category-Based Regulation: SOE Category Simplification
and Holistic Listing of SOEs
It is expressly stated in the Reform Decision of the 3rd plenary session that SOE reforms will be conducted
and managed based on re-categorization of the SOEs. The Guiding Opinions divide SOEs into commercial
and non-profit enterprises, of which the latter category is further divided into 2 sub-categories, i.e. SOEs
within fully competitive industries and sectors, and SOEs within important industries and key sectors
related to national security and the economic lifeline of the country, which are designated to undertake key
special projects. We considers the differentiation between commercial and non-profit SOEs to be a
highlight of the Guiding Opinions, as it allows reforms of the 2 types of SOEs to be implemented following
different directions. In particular, state capital may be reduced to the level of general shareholders, rather
than controlling shareholders, in the case of commercial SOEs specializing in competitive businesses.
Category-based SOE reforms and performance appraisal
国家安全、国民经济命脉
SOEs within key industries and
Commercial SOEs within sectors related to national
竞争行业和领域的商业类 的重要行业和关键领域、 Non-profit SOEs
competitive industries and security and national economy, 公益类国有企业
国有企业 承担重大专项任务的商业
designated to undertake key
sectors
类国有企业
special projects
•• 改革方式：实行公司制股份
Reform approach: Equity •• 改革方式：保持国有资本控
Reform approach: Non-state-owned • • 改革方式：可以采取国有独
Reform approach: The SOEs may
capital is encouraged to invest in the be wholly state owned, and where
制改革，股权多元化，着力
diversification through 股地位，支持非国有资本参
equity of the SOEs for equity
资形式，具备条件的可以推
corporate reforms of SOEs, possible, investor diversification
推进整体上市 股，积极实行股权多元化
diversification, while ensuring the 行投资主体多元化，鼓励非
may be implemented, encouraging
focusing on holistic listing of status of state-owned capital as 国有企业参与经营
non-state-owned investors to
the SOEs controlling shareholders participate in SOE management
•• 考核方式：重点考核经营业 • • 考核方式：重点考核成本控
•• 考核方式：考核经营业绩指
Appraisal: In addition to business
Appraisal: Performance performance metrics and state asset
Appraisal: Performance appraisal
绩指标、国有资产保值增值
appraisal mainly focuses on 标、国有资产保值增值的同 制、产品服务质量、运营效
mainly focuses on cost control,
value preservation and appreciation,
指标和市场竞争力
business performance 时，加强对服务国家战略、
the SOEs’ performance in terms of 率和保障能力，考核中引入
product and service quality,
metrics, performance in terms 保障国家安全和国民经济运
facilitating national strategies, 社会评价
operational efficiency and
safeguarding state security and supporting capabilities, and public
of preserving and increasing 行、发展前瞻性战略性产业 assessment should be incorporated
national economic development,
the value of state assets, and 及完成特殊任务的考核
fostering potential strategic into the appraisal framework
enterprise competitiveness industries, and fulfilling special tasks
Source: WIND, Haitong Securities Research 12Multilevel Regulation: Shifting away From Enterprise
Regulation toward Capital Management
It is expressly stated in the Guiding Opinions that the authorization-based management system for state-owned capital
should be reformed focusing on capital management, and state capital investment and operation companies will be
restructured and established, indicating that SASAC has taken “capital management” as the clear direction for SOE reform.
Such a shift ensures the “leadership of the party” as well as separating the government from enterprises to increase the
operational autonomy of SOEs. We expect that SOEs will be regulated based on 3 levels, whereby SASAC will play a purely
regulatory role in supervising state capital operators, who will also have limited exposure to business decision-making of
invested SOEs – instead, they will exercise their decision-making authority through the boards of shareholders, thereby
allowing the boards of directors and the management of commercial SOEs greater power in business decision-making.
Some provinces and municipalities introduced reform policies for competitive SOEs
Province/
Related policies
municipality
By 2020, state capital should account for more than 60% of the total capital of urban public service and
Beijing special-purpose SOEs
State capital will exit from some SOEs specializing in highly market-oriented and competitive businesses in
Shanghai an open, transparent and orderly fashion, through the introduction of a state capital movement platform
In the case of competition-oriented SOEs, reforms will be gradually implemented to ensure a greater number
Tianjin of outside directors than inside directors, and efforts will be made to introduce the CFO assignment system
All suitable SOEs and assets will be listed, and more than 80% of the state-owned capital of competition-
Chongqing oriented SOEs will be securitized
No lower limit is set for state-owned equity in competition-oriented SOEs; manager recruitment of
competition-oriented SOEs will be gradually opened up; the professional manager system will be adopted for
Zhejiang competition-oriented SOEs on grade-2 or below; wholly state-owned provincial enterprises specializing in
competitive businesses will set up the outside director system, and their boards of supervisors and
supervision mechanisms will be further improved
Efforts will be made to push forward the restructuring and listing of SOEs, especially competition-oriented
Jiangxi SOEs
Source: WIND, Haitong Securities Research 13Multilevel Regulation: Temasek Model Is Worth Studying
The Temasek model of Singapore merits particular attention. In the 1970s, Singapore had a large number of
government-reliant state-owned enterprises, and Temasek was established to separate the government
from the SOEs and to enhance their operating efficiency. As of March 2015, the average yearly return
received by Temasek investors was 16%. Instead of directly participating in managing the invested SOEs,
Temasek takes part in decision-making through voting in shareholders’ meetings. In addition, it is
proposed in the Guiding Opinions that 30% of the proceeds of state-owned capital investments will be
turned over to public finance by 2020 – since SOEs enjoy preferential treatment of the state, the increase in
SOE revenue turnover will fill the gap in social insurance, and a greater portion of SOE profits will be used
to improve people’s livelihood.
Management architecture of Temasek
Standing
常务委员会
Committee
Audit
审核委员会
Committee
President
新加坡 新加坡of
Ministry Temasek’s
淡马锡控股 投资标的公司Board of
董事会和
Board &
of Finance Board of Shareholders Management
总统
Singapore 财政部 董事会 Leadership 1的股东大会
Invested company 1 管理层
Directors 领导力发展和
Development and
任命
Appointment 薪酬委员会
Compensation
投资标的公司Board of Board &
董事会和
任命
Appointment Committee
Shareholders Management
淡马锡控股
Management of 2的股东大会
Invested company 2 管理层
Temasek
经理层
Holdings 投资标的公司Board of 董事会和
Board &
Shareholders Management
3的股东大会
Invested company 3 管理层
Board &
董事会和
。。。 Management
管理层
Source: WIND, Haitong Securities Research 14Pushing forward Mixed Ownership Reform
As the solution to inherent issues associated with the “domination by a single shareholder”, the mixed ownership reform
seeks to transform SOEs’ operating mechanisms by introducing non-state-owned investors to projects conforming to the
state’s industry development policies and conducive to industry upgrade, especially in businesses such as oil, natural gas,
electricity, railroad, telecommunication, resource development and public utility. Currently, most listed SOEs are still
controlled by the government, with a relatively low degree of mixed ownership. According to China’s Ministry of Finance,
among enterprises controlled or owned by state capital, 80% of the equity is held by the state; and the figure increases further
to over 90% if wholly state-owned enterprises are factored in. Due to inefficient enterprise management resulting from the
“domination of a single shareholder”, nearly 40% SOEs are operating at a loss. In 2014, the average ROE of Chinese SOEs was
merely 5%, and that of local SOEs was even lower at 3.5%.
SOEs are inefficiently managed, and 40% of them are loss-making Average SOE ROE continued to decline (%)
180000 Chinese SOEs: number of SOEs:
全国国有企业:户数:亏损企业
Chinese SOEs: number of SOEs:
全国国有企业:户数:盈利企业 8
loss-making SOEs profit-making SOEs 全国国企ROE
ROE of Chinese SOEs 地方国企ROE
ROE of local SOEs
160000
7
140000
120000 6
100000
5
80000
60000 4
40000
3
20000
0 2
2005 2006 2007 2008 2010 2011 2012 2000 2002 2004 2006 2008 2010 2012 2014
Source: WIND, Haitong Securities Research 15Increasing the State Capital Securitization Rate
Specific measures of the mixed ownership reform include: introduction of strategic investors,
pushing forward SOE restructuring and listing, employee stock ownership schemes, attracting equity
funds as shareholders, and introducing private capital to public projects. Securitization of state-
owned capital will be an important means of implementing the reform. At the local level, a number of
provinces have set out clear targets for asset securitization (50%+) in their SOE reform programs. As
the leader in private economy development, Zhejiang aims to “securitize ~75% of state-owned
assets” in 3-5 years, and Hunan and Chongqing set an even more ambitious target (state asset
securitization rate of 80%).
State capital securitization targets (%) set by some Chinese provinces and municipalities
90
80
70
60
50
40
30
20
10
0
湖南
Hunan 重庆（3-5 浙江（3-5
Chongqing Zhejiang 江西
Jiangxi 河南
Henan 北京
Beijing 甘肃
Gansu 黑龙江
Heilongjiang 湖北
Hubei 天津
Tianjin
（2020）
(2020) 年）
(3-5Y) 年）
(3-5Y) （2020）
(2020) （2020）
(2020) （2020）
(2020) （2020）
(2020) （2020）
(2020) （2020）
(2020) （2017）
(2020)
Source: WIND, Haitong Securities Research 16Developing the Modern Enterprise System to Improve
SOE Operating Efficiency
The ultimate goal of SOE reforms is to enhance the management efficiency of SOEs. To this end, it is
imperative to establish a modern enterprise system. Both the Politburo and SASAC issued several relevant
policies since the introduction of the “4 reform” pilots in last July. It is explicitly stated in the Guiding
Opinions that a modern enterprise system will be established focusing on the joint-stock corporate reform,
corporate governance structure, leadership management, salary distribution, internal personnel
employment, etc.
Category-based SOE reform and performance appraisal
公司制股份制改革：大力推动国有企业改制上市，创造条件实现集团公
Joint-stock corporate reform: Actively pushing forward SOE restructuring and listing, and facilitating holistic listing of group
司整体上市。允许将部分国有资本转化为优先股，在少数特定领域探索
companies. Some state-owned capital will be allowed to be transferred to preferred shares, and explorations will be made to
introduce the special state share administration system in certain sectors
建立国家特殊管理股制度。
法人治理结构：切实落实和维护董事会职权，法无授权任何政府部门
Corporate governance structure: Effectively implementing and protecting the power of board of directors, and no
和机构不得干预；加强董事会内部的制衡约束，国有独资、全资公司
government department may interfere with such power without proper legislative authorization; balances and checks
within the board of directors should strengthened, and staff representatives should be included in the boards of directors
的董事会和监事会均应有职工代表。
and supervisors of wholly state-owned enterprises and enterprises solely founded by the state.
企业领导人员分类分层管理：根据不同企业类别和层级，实行选任制、
Category-based multilevel SOE leadership management: Election, appointment, recruitment, etc. systems will be adopted for
委任制、聘任制等不同选人用人制度，董事会按照市场化方式选聘和
SOEs based on their category and level. The board of directors adopts a market-oriented approach to professional manager
管理职业经理人，且增加市场化选聘比例。
election/appointment and management, and more managers will be hired through market-based recruitment.
薪酬分配制度改革：对领导人员实行与选任方式相匹配、与企业功能
Salary distribution reform: Differential salary distribution measures matching the corresponding manager selection methods and
性质相适应、与经营业绩相挂钩的差异化薪酬分配办法。
functions of the SOEs and tied with work performance will be implemented among managers of SOEs
内部用人制度：建立分级分类的企业员工公开招聘制度，企业各类管
Internal personnel employment: Open, category-based and multilevel SOE staff recruitment systems will be established to
理人员能上能下、员工能进能出。
enable the demotion/promotion of relevant management personnel, and the recruitment and dismissal of SOE employees.
Source: WIND, Haitong Securities Research 17Market-Oriented Interest Rate Reform: Deposit-Interest
to be Fully Opened up within 2015
During the 3rd session of the 12th National People’s Congress held on 12 March 2015, PBoC Governor, ZHOU Xiaochuan,
talked about the timetable for interest rate liberalization in China: the deposit interest rate cap will likely be lifted in 2015. In
fact, ZHOU elaborated on measures to step up interest rate liberalization in the Reform Decision Guidebook released at the
end of November 2013, where the short-term, short-to-medium-term and medium-to-long-term objectives for interest rate
liberalization were specified. In addition, he stated during the National People’s Congress and the Political Consultative
Conference in 2015 and the 6th China-US Strategic Dialogue in July 2014 that China “should be able to complete interest
liberalization in 2 years”. And YI Gang, PBoC’s Deputy Governor, was also quoted saying that “relevant conditions have
become increasingly ripe for interest rate liberalization”.
ZHOU Xiaochuan’s remarks on interest liberalization
Time Occasion Event
Near-term objectives: Relevant efforts will be focused on the market-based self-discipline
mechanism for interest rate pricing and independent pricing by financial institutions; ensuring
effective lending base rate offering as the basis for credit product pricing; facilitating interbank
deposit certificate issuance and trading, and increasing the applicability of market-based pricing
to debt products of financial institutions.
Nov. 2013 Reform Decision Guidebook
Short/medium-term objectives: Fostering a fully-developed market-based interest rate system,
and developing the central bank interest rate regulation framework and the interest transmission
mechanism.
Mid-term objectives: Interest rates will be fully liberalized, and the market-oriented macro-level
interest rate regulation mechanism will be further developed.
The cap on deposit interest rate will be lifted, which should also be the final step toward interest
NPC and the Political
Mar. 2014 rate liberalization. Since restrictions on many other interest rates have been lifted, deposit
Consultative Conference
interest rates will also be opened up. I personally believe that this will be realized in 1-2 years.
The goal is still to complete interest rate liberalization within 2 years, but the time for interest rate
Jul. 2014 6th China-US Strategic Dialogue
liberalization is also dictated by external factors, and the PBoC has its own timetable.
Mar. 2015 3rd Session of the 12th NPC Lifting the deposit rate cap is highly likely in 2015.
Source: WIND, Haitong Securities Research 18SDR, RMB Internationalization and Capital
Account Liberalization
Inclusion of Renminbi into the SDR basket of currencies has major strategic implications for RMB
internationalization. First, it means that the RMB has become a global currency and an official currency
used by IMF’s member states, which will raise its position among currencies worldwide. Second, inclusion
of the RMB into the SDR will boost global demand for Chinese yuan and therefore improve its functions as
an international currency in terms of international payment settlement, financial transactions and official
reserves. Lastly, given China’s ~US$ 4trn foreign exchange reserves, we will be able to cut reserves once
the RMB becomes a reserve currency, and the resultant saving of funds can be used for development
purposes. Here, the SDR is discussed within the general framework of RMB internationalization. Viewed
from a higher level, RMB internationalization, freely floating exchange rates, interest rate liberalization and
RMB convertibility under capital accounts are 4 separate measures with a common goal, each serving as a
necessary and sufficient condition for the others.
The “4 in 1” reform incorporates separate but closely connected components
RMB
internationalization
RMB convertibility under Freely floating exchange
capital accounts rates
Interest rate liberalization
Source: WIND, Haitong Securities Research 19Progressive Opening of RMB Capital Accounts
The RMB capital account reform was significantly expedited in 2015. During the IMF annual conference in April,
Governor ZHOU Xiaochuan disclosed that “China plans to make the RMB freer to use”; in the RMB
Internationalization Report (2015) released in June, the PBoC pointed out that “we are not far away from RMB
convertibility under capital accounts”. Relevant policies have also been rolled out: bond repurchase was opened
up for some overseas financial institutions; Mainland-HK fund mutual recognition was launched; and QDII2 and
Shenzhen-HK Stock Connect are both on the horizon. Looking back at the capital reform history in China, relevant
reforms have been steadily pushed forward despite temporary delays and drawbacks.
The history of capital account convertibility reforms in China
Reforms
97年亚洲金 were put Delays in the reforms
on hold due to the
2008年全球
due to the global
融危机，进
Asian financial 金融危机，
financial downturn in
程被搁置
crisis in 1997 进程被延缓2008
The
2003年target of “capital
十六届三中
“Making RMB a convertible Cross-border RMB
1993年 十四届三中全会
currency” was proposed for
account
全正式重新提出 convertibility” 2009年 RQFII Shanghai-HK
trade settlement 2011年 2014年
首次提出要“逐步使人
time in the 3rd Plenary
was officially re-proposed
“逐步实现资本项 启动跨境人民币贸
launched in launched in Stock
开展RQFII Connect
the first
in the 3rd Plenary Session of
pilots 沪港通成
民币成为可兑换的货币”
Session of the 14th NPC in 目可兑换”的目标 易结算业务试点 2011 launched in 2014
the 16th NPC in 2003
2009 制度 功开展
1993
Current accounts QFII
2002年 QDII 2006年
introduced 2003-08:
2003~2008年: 2010年
2010: 2013:
2013年 2015年
2015:
1996年 经常项 •• FDI
became fully introduced
引入QFII in in引入QDII
2006 and ODI
FDI和ODI很大 • Capital
• 将资本项目 account •• Announcement •
of •债券回购交易
Opening of bond
目完全可兑换 十八届三中
convertible in 2002
制度 制度 made RMB
程度上实现了人 convertibility
可兑换目标 was the 3rd Plenary repo to offshore
向已获准进入
实现1996 significantly more included in the
全会宣布将
民币可自由兑换 写入十二五 Session of the RMB clearing
银行间债券市
convertible 12th Five-Year 寻找机会推
18th NPC to seek banks and
• 对贸易融资以及 规划 进“人民币 to 场的境外人民
• Registration- Plan opportunities participating
与贸易相关的对
based • 境外机构进
• Foreign 资本账户可 币清算行和境
promote “free banks qualified for
非居民债权采用 organizations
administration 入境内银行 自由兑换的
conversion of 外参加行开放
interbank bond
注册制 for trade
adopted were间债市
allowed to 进程”
RMB capital • 两地基金互认 investment
financing and enter China’s • accounts”
上海自贸区 •启动Mainland-HK
trade-related non- interbank bond • Shanghai
成立 Free- fund mutual
resident claims market Trade Zone recognition
established launched
Source: WIND, Haitong Securities Research 20Capital Account Convertibility Enhanced Rapidly and
Can Be Further Improved
(1) Credit facilities – commercial credit is already fully convertible in China according to relevant IMF
assessment reports. (2) Direct investment – China has opened up outbound direct investment (ODI), but
direct investments in China by overseas investors and clearing transactions are still subject to government
approval. Capital, money and derivative markets – conversion of RMB is mainly realized through QFII, QDII
and RQFII, where the investment quotas have been consistently increased. As of 29 June 2015, the
investment quota for QFII reached US$ 75.5bn, QDII quota was close to US$ 90bn and RQFII quota was
RMB 390.9bn, marking a 216-fold, 9-fold and 37-fold increase, respectively.
Investment quotas for QFII, QDII and RQFII Total assets of QFII and securities held by QFII as a
percentage of total assets
1,000 QFII投资额度（亿美元，左轴）
QFII investment quota (US$ 100mn, left) 4,500 4500 QFII总资产（亿元，左轴）
Total assets of QFII (RMB 100mn, left) 100
QFII证券资产占总资产比例（%，右轴）
Securities held by QFII as % of total assets (right) 90
900 QDII投资额度（亿美元，左轴）
QDII investment quota (US$ 100mn, left) 4,000 4000
800 3500 80
RQFII投资额度（亿元，右轴）
RQFII investment quota (RMB 100mn, right) 3,500
700 70
3,000 3000
600 60
2,500 2500
500 50
2,000 2000
400 40
1,500 1500
300 30
1,000 1000 20
200
500 500 10
100
0 0
0 0
2007 2008 2009 2010 2011 2012 2013
Jun-03 Jun-05 Jun-07 Jun-09 Jun-11 Jun-13 Jun-15
Source: WIND, Haitong Securities Research 21Exchange Rate Deregulation & Independent
Interest Rate Policy
Based on Mundell’s “ternary paradox” theory, the PBoC had to choose 2 of the 3 options, i.e. free
movement of capital, fixed exchange rate and independent monetary policy. The PBoC recently cut interest
rates and reduced the deposit reserve ratio requirement (RRR). In our opinion, the RRR cut came as a
surprise. The aim is to make it clear to the market that the PBoC gives greater emphasis to an independent
monetary policy, and hence the previous reform of the exchange rate formation mechanism. In the past,
China exercised control over capital flow. This, coupled with relatively fixed exchange rates, dictated that
Chinese interest rates followed the trends in the US. However, the latest exchange rate reform made the
exchange rate of RMB more flexible. In addition, capital movement control has been tightened up, and it is
theoretically viable to pursue a totally independent monetary policy at the same time.
Alternative monetary policies available to China under the Mundell Triangle
Interest Independent
rates interest
pegged to rate
the US policy
Managed Capital
Fixed Capital floating flow
exchange flow exchange management
rate rate
Source: WIND, Haitong Securities Research 22Summary
1. Chinese Economic Development and Outlook
2. Timetable for Economic Reform in China
3. How Can Economic Transformation Be Achieved in
China?
4. Analysis of Recent Market Volatility
23Solution: Growth Model Transformation –
Finding New Growth Drivers for China’s Future
Germany, Japan and South Korea all experienced a drop in national industrialization rate in their struggle
to escape the middle income trap. Today, China has come to the Late Industrialization stage. According to
the growth theory, transformation of the economic growth model is an inevitable outcome after growth
driven by demographic dividend comes to an end. In other words, new growth drivers must be developed
for the Chinese economy. We think our hope will mainly come from 3 factors: human capital represented by
China’s ample supplies of university graduates and engineers, the US model driven by innovation, and
reforms promoted by President XI Jinping.
Transformation of China’s growth model
Past Future
Demographic Human capital
dividend
Economic
Investment growth Innovation
Foreign trade Reform
Source: WIND, Haitong Securities Research 24Growth of Human Capital Resulting from
Increased University Enrollment
The increasing popularity of higher education has been significantly improving the quality of labor force in
China. Nearly 7 million students graduate from Chinese universities every year, as opposed to 1 million 10
years ago. From the perspective of non-agriculture employment, ~5 million new jobs will be created every
year in the future, meaning that almost all the new jobs will be taken by university graduates. Therefore, it
is imperative for us to develop a new economic growth model matching the characteristics of human
capital supply in China.
No. of Chinese university and No. of new university graduates and
high school graduates by year new non-agricultural jobs (10,000)
9,000,000 3,000
每年高等教育毕业生数量
No. of higher education graduates 新增大学生毕业数
No. of new non-agricultural jobs
8,000,000
每年高中毕业生人数
No. of high school graduates 2,500
7,000,000 新增非农就业人数
No. of university graduates
6,000,000 2,000
5,000,000
1,500
4,000,000
3,000,000 1,000
2,000,000
500
1,000,000
0 0
80 85 90 95 00 05 10 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20
Source: WIND, Haitong Securities Research 25From Bank Financing to the Capital Market
Why future enterprises will be nurtured on the capital market? An important reason is that return on capital
will be trending down over the long term given China’s ageing population. Therefore, there must be a shift
away from expensive bank financing toward direct financing at a lower cost. Due to the large number of
bank outlets and employees, bank loans are inherently cost ineffective. By contrast, the information
sharing feature of direct financing enables enterprises to make substantial savings of financing cost,
making it especially suitable at a time of low return on capital.
Changes in financing structure
High interest Bank High financing cost
Growth driven by
rates financing due to the large
demographic
number of employees
dividend
and business outlets
Capital Low financing cost
Population ageing Low interest
rates market due to information
sharing
Source: Haitong Securities Research 26Rise of the Service Industry amid Industrial Transformation
Declining return on capital will lead to a shift in the financing system from banks to the capital market, and
the resultant rise in labor cost will damage the competitiveness of Chinese industries against an increase
in demand for services. As a result, the focus of China’s economic structure will move from industries
toward services. For traditional industries, there are only 3 solutions: (1) internationalization – seeking new
demand overseas through the “One Belt and One Road” platform; (2) entering the high-end manufacturing
market by building their competitiveness; (3) establishing themselves as industry leaders through M&A.
Changes in China’s economic structure
Going abroad
through “One Belt
and One Road”
High interest Entering high-end
Banks Industry manufacturing
rates with improved
competitiveness
Becoming
industry leaders
through M&A
Low interest
Capital Services
rates market
Source: WIND, Haitong Securities Research 27Reforms to Ensure Equity of Policies
The 4th Plenary Session decided that the establishment of a legal system featuring equal rights,
equal opportunities and fair rules will be expedited to safeguard the personal rights, property rights
and fundamental political rights of Chinese citizens. We think this means that more equity
assurance policies will be introduced after the meeting to ensure fair play in market competition,
fair trading of elements and fair income distribution.
Outlook for reforms after the 4th Plenary Session
Equal Fair play in competition
opportunities
Speed is of Equality
paramount as the top Equal rights Fair trading of elements
importance priority
Fair rules Fair income distribution
Source: WIND, Haitong Securities Research 28Summary
1. Chinese Economic Development and Outlook
2. Timetable for Economic Reform in China
3. How Can Economic Transformation Be Achieved in
China?
4. Analysis of Recent Market Volatility
29Internal Cause: Investor Structural Imbalance
The total market cap of A shares now stands at RMB 43.1trn, the negotiable market cap totals
RMB 34.9trn, and the free float market cap totals RMB 17.1trn, of which 46% is held by
individual investors.
Breakdown of free float market cap held by A share investors
General corporate entities
Funds
Insurance & social insurance
Individual investors
PE
Brokerages
Large SOEs Other
Source: WIND, Haitong Securities Research 30Stock Markets Dominated by Individual Investors
A shares have maintained a stable transaction distribution since 2007: individual investors
account for 85%, institutional investors account for 12%, and corporate entities for 3%.
Distribution of A share transactions
Natural-person investors General corporate entities Professional organizations
Source: Statistical Yearbook of the Shanghai Stock 31
Exchange, WIND, Haitong Securities ResearchHighly Speculative Markets
The turnover rate among A share investors is far higher than investors in other stock markets.
The turnover rate in China’s GEM is 10x, whereas that of Nasdaq is only 2.5x.
YTD turnover rates by market (annualized, %)
Source: WIND, Haitong Securities Research 32Internal Cause: Excessive Leveraging
Prior to 15 June 2015, A share financing (margin trading + margin financing) / negotiable market
cap reached 7.2%, matched only by the frenzied Taiwanese stock market in 1990. The slump in
June was followed by investigations by the CSRC, and the A share leverage ratio is now lowered
to a reasonable level around 3.3%.
12% 各国市场杠杆率比较
Stock market leverage by country
10.0%
10%
615调整前
Before 15 June, 2015 融资额/总市值 最高值
Financing/total market cap Peak
8% 融资额/总市值 平均值
Financing/total market cap Average
7.2%
6%
目前杠杆率
Current leverage
ratio
4% 3.3% 3.0%
2.30%
2% 1.50%
0.9%
0.57%
0%
A股杠杆（流通市值）
A share leverage ratio (negotiable 台湾
Taiwan 日本
Japan 美国
USA
market cap)
Source: WIND, Haitong Securities Research 33Extreme Market Volatility
A long-term bear market is caused by a reversal in fundamentals. The recent A share slump is
attributable to individual events and institutional factors. Similar excessive corrections have
occurred in overseas stock markets.
Mid-term bull market corrections by stock market
A shares (2015): A shares (1996):
A shares (2015): Taiwan (1988): USA (1987):
Shanghai Shanghai
CHINEXT Index Weighted index S&P 500
Composite Index Composite Index
Source: WIND, Haitong Securities Research 34Market Reconstruction in 3 Steps
Risk
Interest rate Profit
appetite
10Y government bond yield (%, left)
Inversion of order
1/A-share PE – 10Y government bond yield (adjusted, %, left)
YoY growth of A-share cumulative net profit (%, right)
Source: WIND, Haitong Securities Research 35Step 1: Stable Exchange Rate with Rate Cuts Confirmed
Interest rate and RRR cuts by the PBoC on 25 August revealed the “ternary paradox” policy
orientation.
FOMC chose not to raise interest rates. RMB turnover in September dropped from US$ 25bn /
day to US$ 15.1bn / day, indicating that the devaluation pressure on RMB has significantly
subsided.
600 人民币成交金额（亿美元）
RMB turnover (US$ 100mn)
500
400
300
200
100
0
Source: WIND, Haitong Securities Research 36A Shares Became More Attractive After the Slump
Lower interest rates led to changes in the asset price comparison effect, in favor of the stock
markets. The current high dividend yield makes A shares substantially more attractive, similar to
the level in March 2014.
7.0% 主要投资品种收益率对比
Yields on main investment products
百
6.00%
6.0%
4.89%
5.0%
3.93%
4.0%
3.16%
3.0%
2.0% 1.66%
1.0%
1Y 银行理财
bank wealth 1Y AA corporate货币基金利率
AA企业债 Money 股息率前15
Avg. valuation A股整体股息
Overall A-share
1年期
management 1年期
bonds funds rate 公司均值
of top-15 率（分红公
dividend yield
companies by (dividend-paying
司）
dividend yield companies)
Source: WIND, Haitong Securities Research 37Step 2: Risk Appetite Correction
Since July 2014, reforms have accelerated, Account asset growth YoY by category
gradually bolstering investors’ risk appetite. Under RMB 500,000
RMB 500,000 – 5mn
RMB 5mn – 100mn
Over RMB 100mn
The most sensitive funds started to enter
the market.
After the promulgation of the top-level
national reform plan, the supporting “1+N”
is expected to follow soon. Acceleration of
Rate cut led to a Acceleration in Earnings
lower risk-free rate reforms raised risk expectations reforms will help ease the pessimistic
appetite improved steadily
sentiment.
Strong support Catalyst Safeguard
Source: WIND, Haitong Securities Research 38Growth Stabilization through Active Fiscal Policy to Allay
Concerns over Deflation
With the introduction of growth stabilization measures in July 2013, GDP growth in H2 will
exceed the market consensus.
The Ministry of Finance released the Fiscal Policy Measures to Support Economic Growth
Stabilization on 8 September.
GDP: cumulative Avg. GDP (E): cumulative YoY (%)
YoY (%)
Source: WIND, Haitong Securities Research 39Step 3: Confidence Restoration after Successful Economic
Transformation
After WWII, representative stock indexes overseas increased 10-20 times due to strong
economic growth.
The “13th Five-Year Plan” due for release during the 5th Plenary Session of the 18th National
People’s Congress in October will focus on economic restructuring and emerging industries.
Implementation of relevant policies will rebuild investors’ confidence about China’s economic
transformation and innovation.
Increases in related indexes (X)
USA: USA: Japan: Japan: Taiwan: HK:
1942-68 1982-00 1950-61 1967-89 1985-90 1984-97
Source: WIND, Haitong Securities Research 40China in the Midst of Economic Transformation
Economic growth models worldwide are shifting toward technological innovation as the growth
driver, with the US taking the lead. The Chinese market is “genetically” suitable for internet
development, and the Chinese government has introduced industry policies to support
innovation.
Investment of Chinese venture funds Number of A-share IPO Listed Companies since 2012
(VC + PE + Angel Investors)
No. of investment projects (right)
Total investment (RMB 100mn, left)
SME
102, 25%
GEM
176, 44%
Main board
126, 31%
Source: WIND, Haitong Securities Research 41You can also read
