The policy has brought significant human and economic benefits. Despite their highly advanced medical technology, G7 countries have registered many more Covid deaths than China . Impressively, China only recorded four Covid deaths between mid-April and October this year.
China’s robust export growth since mid-2020 (Exhibit 1) has been a direct result of ZCP containing the spread of the virus. This has allowed China’s production to normalise quickly and enabled it to cater for the world’s demand, especially for personal protection equipment and work-from-home products, at a time when the rest of the world’s production was hamstrung. Those strong exports, in turn, have boosted China’s manufacturing and capital expenditure.
Politically, ZCP has highlighted the institutional strength of the Communist Party to rally resources to manage the unprecedented health crisis. This has allowed the government to laud the success of the Chinese model.
Abandoning the policy now could be seen as an admission that it did not work. This could be extremely sensitive in the run-up to the 20th Party Congress in late 2022 when plans for a reshuffling of top party officials will be considered. As leaders compete for key posts during this once-in-a-decade leadership overhaul, they will want to minimise any potential policy mistakes. So the best option would now seem to be to keep the ZCP and minimise the risk of another outbreak.
Rising costs, diminishing benefits
However, with almost 80% of the population now fully vaccinated, the human benefit of ZCP – contributing to saving lives – is likely declining. The economic benefit of robust export growth could also diminish as and when production starts to normalise in the rest of the world, shifting foreign consumption from goods to services and thus reducing demand for Chinese goods.
The ZCP has also cut China’s services trade deficit sharply, boosting its current account balances, its balance of payments surplus and the renminbi exchange rate. The strength of the renminbi will likely become a drag on Chinese exports as global goods demand moderates.
Meanwhile, the costs of this approach are rising. As the other countries choose to live with Covid and their economies re-open, ZCP leaves China out of the global services trade such as tourism and business travel. Chinese people are increasingly feeling the pinch as rounds of lockdowns and travel bans across the country under the ZCP have hit the services and consumption sectors, increasing unemployment and draining savings.
Significant fiscal spending on fighting Covid-19 will likely reduce Beijing’s investment in other productive areas. The prolonged closure of the international border will likely become an obstacle for foreign direct investment and knowledge flows to China. This could affect its ambition to climb the value-added ladder and develop its high-tech industry.
How long will China hold on to ZCP?
Theoretically, the answer depends mostly on medical factors including the effectiveness of vaccines to control the virus, the mortality risk of new variants and the development of effective anti-Covid drugs. In practice, the timing of these factors is uncertain. Barring any swift development of antidotes, political considerations may shape Beijing’s decision on ZCP.
A few crucial events will take place between early 2022 and early 2023. So, do not expect any ZCP changes before the National People’s Congress (NPC) in March 2022, which comes right after the Winter Olympics (from 4 to 20 February). Leaders will want to avoid any Covid problems before these important gatherings. They may even double down on the policy in the run-up to the Winter Olympics.
In late 2022, most likely in November, the central government will hold its 20th Community Party Congress when top positions will be determined. Risk aversion will likely dominate during this major leadership change. The practical option for senior leaders seems to be status quo. The leadership change will be completed at the NPC in March 2023 when the president, premier and senior ministers will be appointed.
All this suggests that Beijing would likely stick with ZCP until early 2023. Depending on the development of anti-Covid drugs and infections, Beijing may relax the policy somewhat between March 2022 and March 2023, for example, by allowing some business and personal travel and easing the quarantine requirements.
What impact has the zero-Covid policy had?
ZCP mobility restrictions are clearly disrupting the consumption and services sectors. They are the key reason why China’s consumption recovery has significantly lagged that of the production side of the economy since last year.
The policy has also contributed to supply-chain disruptions, leading to longer delivery time and bottleneck conditions. The international impact is, arguably, more serious: delivery delays have been much longer in the West than in China (Exhibit 2). This underscores the continued importance of China in global supply chains despite concerns about China decoupling from the world system.
All this is affecting inflationary expectations, prompting some investors to expect inflation to remain higher for longer and to worry about the emergence of stagflation.
Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients. The views expressed in this podcast do not in any way constitute investment advice.
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