Fitch Ratings: Policy Easing No Quick Fix to China's Reform Challenges 

Further fiscal and monetary easing may help stabilise growth in 1H19 but will not solve China's medium-term economic vulnerabilities unless accompanied by further structural reform, Fitch Ratings says. Indications from policymakers both at and subsequent to China's annual Central Economic Work Conference in December underscore the authorities' concerns over slowing economic growth and US-China trade tensions.

President Xi Jinping's 2019 New Year address alluded to "opportunities and challenges" ahead, while the conference revealed policymakers' increasing discomfort with the economic slowdown, as reflected in their pledge to "maintain reasonable growth" and extensive use of "stable/stability" in the concluding press release. The emphasis on sustaining growth suggests a further step away from deleveraging initiatives in favour of more policy easing.

On the fiscal front, the government appears set to pursue additional tax cuts and increase capital spending through the issuance of local government special bonds. Monetary policy will become more accommodating, as signalled by the removal of "neutral" from the government's characterisation of its monetary policy stance. Policymakers also signalled a continued focus on improving monetary policy transmission and further targeted measures to address some of the financing challenges faced by the private sector, while only making passing reference to the need for continued "structural deleveraging".

Recent data add to growing evidence of downward pressure on the economy. Retail sales growth softened further in November, while industrial profit growth and property sales continued to slow. External demand is unlikely to support growth in 2019, given trade frictions with the US. We captured these trends in our affirmation of China at 'A+'/Stable in early December and policy signals have remained broadly in line with our assumptions at that time. The Stable Outlook reflects our assessment that policymakers will continue to resist a return to credit-intensive stimulus, in favour of on-balance-sheet fiscal measures, such as tax cuts. A return to credit-stimulus could put pressure on the rating.

The authorities have signalled their desire to implement further structural reforms to improve growth prospects. Capital market reforms, including a new technology board on the Shanghai Stock Exchange, were put forward as a solution to Chinese enterprises' dependence on bank credit. A draft of a new Foreign Investment Law has recently been submitted, seeking to put foreign firms on a more equal footing with Chinese counterparts and including protections against forced intellectual property transfer. Long-standing objectives, such as innovation in the manufacturing sector, intellectual property protection, and giving a larger role to the private sector in addressing supply-side constraints, were also emphasised at the conference.

Missing from recent economic reform proposals is a roadmap to address some of China's most pressing structural reform challenges. For example, state-owned enterprises continue to benefit from implicit government support and preferential access to bank credit, despite having typically weaker credit metrics than private-sector firms. December's conference signalled a potential step backwards from addressing this challenge, with calls for a greater role for state asset investment and management companies. Their objectives would include taking equity stakes in state-owned enterprises and supporting heavily indebted ones.

Another important challenge is an imbalanced fiscal relationship between central and local governments, which results in municipal governments relying on volatile land sales to fund public works projects through off-budget investment vehicles. The conference highlighted infrastructure investment needs in public services and high-tech, which could lead to resurgence in off-budget borrowing by local governments.

The release of the 2019 GDP and budget deficit targets at the National People's Congress in March will provide important clues about the extent to which policymakers will seek to prioritise addressing longer-term structural vulnerabilities over near-term growth objectives.