China wants to "deepen overall reforms"

Summary

The Communique of the 3rd Plenum of the Party Congress is as vague as usual and the more-detailed document may only be available in a week's time. Our reading from the communique is that: (1) the senior leadership wants to "deepen overall reforms" including economic, government and judiciary reforms to help establish a modern governance system; (2) SOE reform is not a top priority; (3) the key focuses of economic reforms are on fiscal reform, factor price and market reforms, and social safety net and government administration reforms; (4) corruption may be contained by reducing the role of the government in allocating resources and giving administrative approvals, and by making consolidated and transparent budgets; and (5) detailed reform plans and progresses will likely be gradual as the leadership aims for "decisive results" by 2020. As highlighted in our earlier reports, reform announcement is one thing, material progress could be another, and the latter is the important one.

What's new?

The Plenum actually discussed deepening overall reforms, including economic reform, government and governance reforms, judiciary reform, and defense/military reform. Indeed, at this stage, economic reform needs the support of reforms in other areas. The senior leadership's ambition is to establish a "modern governance system" by 2020.

There will be a "leading group" on deepening overall reforms to help design, coordinate and push forward reforms. This group could be headed by President Xi himself, which would be helpful in breaking through some resistance at local or ministry level. That means, although some of the wording may sound similar to the previous documents, there could be more material progress in the coming years than before.

Market is to play a "decisive role" in allocating resources, an upgrade from the "basic role" wording used in the previous 20 years. This suggests more factor price reforms, including marketization of interest rate.

Decisive results are expected by 2020. This means that the senior leadership view the reform process as a long and difficult one. One should not expect major breakthrough in the near term.

Key economic reforms

Fiscal reform. The communiqué emphasized the importance of fiscal reform and highlighted key areas such as improving fiscal legislation, reforming the tax system, making budgeting more transparent, clarify administrative authority, and match administrative authority with spending responsibility.

We believe the current budget law may be revised soon to require various levels of governments to consolidate their budgets, disclose longer term spending needs and financing gap, and allow local government to raise debt explicitly. We also expect continued tax reforms including the business-for-VAT tax, resource tax and consumption taxes. Given the complexity and difficulties, these reforms are likely to progress gradually.

Urbanization-related reforms. The communiqué did not specifically mention hukou reform and the wording on land reform changed little from previously. The wording on "establishing a unified market for urban and rural construction land" is almost exactly the same as in the 17th Party congress five year ago. However, the communiqué did mention "integrated urban-rural development", given farmers more property rights (new), and allocate public resources more fairly and equally across rural and urban areas.

We believe the government likely to push forward on hukou reform and land reform areas, though perhaps by experimenting in many areas rather than pushing through the whole country quickly. Farmers may get their land ownership rights more clearly established, which could allow them to use as collateral and for easier transaction. Also, we expect more progress in social protection reforms such as pension and health care insurance, as well as more resources on education and public infrastructure in rural areas and smaller cities.

Government administrative reform. This is clearly a key reform areas, with related wording scattered across the communiqué, including "change the role of the government", "clear away market barrier", "governing according to law", "institutionalize the authority over people and money", and "establish service-oriented government".

We expect the government to continue to cut red tape and streamline approvals and administrative procedures. This should be especially helpful to promoting service sector development and small businesses.

Financial reform. The market may be disappointed at the lack of words on financial reforms, as the only area it appeared was "improving financial markets". These words could mean the development of capital markets including the bond market. However, we believe financial reforms will also include interest rate liberalization ("prices should be mainly determined by the market") and capital account opening ("facilitate the orderly and free movement of (productive) factors, efficient resource allocation, and deep integration of markets internationally and domestically").

The biggest disappointment

SOE reform. As we had expected, and contrary to the recent market hype, SOE reform seems to have not been considered a priority by the Plenum. The communiqué used the same wording as 10 years earlier, making it clear that public ownership and the state-owned sector is the pillar and "foundation" of the "socialist market economy". This is disappointing. The communiqué did put non-public economy as "also the base" of the economy, suggesting possible reforms to reduce discrimination against private enterprises in the coming years.

The author is Managing Director, Head of China Economics Research at UBS.