Has the Communist Party rediscovered its ability to pursue radical change? Don’t get your hopes up just yet, says Iain Mills, contributing editor for China at IPE sister publication Investment & Pensions Asia.
Signs of major financial market reform in China, combined with political developments in Beijing that have made headlines across the world, have increased speculation the country could finally be about to make a number of long-overdue and much-discussed structural changes.
The fall from grace of Bo Xilai - the former Communist party secretary for the Chongqing municipality - has coincided with a swathe of financial reforms, including an unprecedented increase in the QFII quota, large-scale RQFII expansion and formal approval of the CIC’s independent overseas investment branch. Senior leaders have spoken out against the “monopoly” of the Big Four banks. There has also been an uptick in official comments relating to the “marketisation” of interest rates - arguably the most necessary change to China’s financial system, but also the most disruptive.
Taken together, these undoubtedly significant developments point to the rise of reformist elements in Beijing. The argument that China must liberalise rather than control financial markets to maintain economic growth is winning through in the corridors of Zhongnanhai.
While official propaganda paints the move against Bo and his associates as having been dictated by the rule of law, speculation is rife that factional politics have caused the rupture, and that progressive elements are becoming considerably more confident within elite policy circles. The removal of Bo - to some extent, the darling of conservative elements within the Communist party - suggests reformers are dismantling power bases that oppose critical reforms, such as the liberalisation of the renminbi, or a larger role for private and foreign capital in the economy, both anathema to conservatives.
But excitement in the international media needs to be tempered. QFII still accounts for just 1.09% of total A-share capitalisation - a long way behind developed market levels of 20-30%. Even if the quota were doubled every year from here on, it would still take around a decade to reach international standards.
Public mention of interest rate marketisation is significant, but, given that Chinese banks derive more than 80% of their profits from the guaranteed net interest margin (NIM) under the current system, it is hard to see this process unfolding quickly. The PBOC, a bastion of reformism, recently issued a 10-18 year plan for capital account liberalisation - including interest rate marketisation - substantially longer than the five years the central bank was previously briefing. The new timeframe looks more achievable but also underlines that gradualism will remain the watchword of Chinese policy formulation for some time to come.
Moreover, as March’s new renminbi lending print showed, credit expansion remains the primary driver of the economy, while banks’ efforts to increase other income streams, such as asset management businesses, are limited by operational immaturity, as well as systemic restrictions. Phasing out the guaranteed NIM and thereby facilitating genuine systemic reforms is one of the most perilous areas of reform for China, and the authorities will proceed with extreme caution when the process does begin.
Casting a wider analytical net, there is also less evidence of reformist ascendency in other key areas. For example, the role and position of the military vis-à-vis recent policy developments remains unclear. In energy policy, official comments from the National People’s Congress in March gave only tentative commitments to energy price marketisation, while the government also appears to be backing away from plans to liberalise power-pricing mechanisms in the near future.
The on-off saga of investment of provincial pension funds in equities markets - where the fault line falls between the National Social Security Fund and the Ministry of Finance - is another area of public contention.
Overall, high-profile moves within the Chinese government would appear to indicate that, after a period of relative stasis, the Communist Party is re-finding its ability to pursue radical change. However, this change is bringing to the fore factional and ideological divides that, by and large, have been successfully managed within the consensus system over the last 20 or so years.
Reforms to financial markets seem to be progressing ahead of other key areas, which are undoubtedly welcome, but a more holistic view suggests there is plenty more politicking to come, and political drama in Beijing could continue to enthral global investors for some time.