How Xi’s zero-Covid mismanagement left China’s economy on the brink

Shanghai police were caught off guard last weekend when hundreds of protesters turned up on Wulumuqi Middle Road in the heart of China's commercial capital. They were mourning the deaths of at least 10 people in an apartment fire in Urumqi, in the north west region of Xinjiang, where many residents have been stuck in their homes for more than three months.

“The deaths really touched a nerve,” says Andy Xie, an independent analyst who lives in Shanghai. “During our two month lockdown, so many people complained about this very risk.”

Unrest in Shanghai has been replicated across China in recent days as President Xi Jinping faces the worst protests against Beijing in decades. Many ordinary Chinese citizens have been angered by repeated lockdowns that have not only curtailed their freedoms but had a devastating impact on livelihoods.

“The government doesn't care about the economy,” claims Xie. “Xi is taking us back to a period where the focus is on social control and national strength.”

Repeated lockdowns have already taken their toll on the economy. Sales at in-person stores across China remain below pre-pandemic levels, while restaurant visits have collapsed. Xie, Morgan Stanley's former chief Asia economist, says the area downtown where he lives in Shanghai is now full of boarded-up shops.

“It's not just the odd store. It's whole blocks,” he says. “That has never happened before, and it's nothing to do with the health of the economy. Covid lockdowns have driven these businesses out.”

Before the pandemic, the idea of China’s economy growing by less than 3pc a year seemed unthinkable. But many now believe the world's second largest economy will struggle to match the pace of growth familiar to mature economies like the UK or US. The International Monetary Fund thinks the economy will expand by just 3.2pc this year.

There were hopes that President Xi Jinping would ease the zero tolerance policy early next year to usher in higher growth. But there are fears that a recent surge in cases will see the country return to its old playbook of crippling lockdowns.

Vaccination rates among the elderly are low: a third of over 60s have not had their third booster shot.

Delay has economic costs. Oxford Economics believes a delay in reopening until 2024 will shave almost one percentage point off its current prediction for 4.2pc growth next year. Worse still, it says a repeat of the Shanghai-style lockdown will put China on course to expand by as little as 2pc this year. This would represent the weakest growth since 1976, at the end of the Mao Zedong era.

Stagnation risks leaving a generation behind. Almost one in five young people aged under 24  in China are currently unemployed. Joanna Davies, head of China economics at Fathom Consulting, believes this growing trend could spark more open dissent.

“If your economy is slowing, and you've got high youth unemployment and growing underemployment, as well where people are working but aren’t particularly productive - just digging holes just to fill them up again - you're going to have increasing dissatisfaction and social unrest,” she says.

In the short term, slower Chinese growth will drag down oil prices. China accounted for 16pc of global oil consumption in 2021. Edward Gardner, commodities economist at Capital Economics, believes tighter restrictions will reduce oil demand in China by roughly a million barrels a day in December, compared with November. This is consistent with a fall in the price of Brent crude of between $5 and $10 per barrel.

Mr Gardner notes that prices of other commodities will fall if the world's factory continues to stutter. China accounts for 10pc of global gas and 54pc of global coal consumption.

“If restrictions become widespread and affect industry, this would raise downside risks to our other energy price forecasts,” he says.

More worrying still is Beijing's attitude towards slower growth, with the Government appearing to accept a weaker economy as the price to pay for maintaining control.

“The government does not want to show weakness because in the Chinese political tradition the government's job is to manage the people,” says Xie. “It's like a company CEO like Elon Musk takes over Twitter, and he says, ‘If you don't listen to me, I'm going to fire you’. But this gets complicated because I'm not sure most middle-ranking government officials really support this policy.

“If you look at Chinese social media, WeChat is full of content that is not favourable to the government. It's happening because someone is letting it through. So I think there is a passive resistance, not just among the people but among the mandarins charged with overseeing these policies.”

Davies describes the dilemma facing Beijing: open up and admit that draconian zero-covid policies were unnecessary or stay shut at a greater economic cost.

China’s decades-old problem remains that it is too reliant on government spending to drive growth.

“China's economy was already slowing down before Covid,” she says. “The only way they can avoid that downward path of growth is to rebalance the economy away from the old drivers of growth such as housing and massive infrastructure projects. But to do so will be incredibly painful in the short term and every time China has tried, they back away when growth falters. That just means that Beijing is on a path towards Japanification, or persistent stagnation and deflation.”

Beijing is already shunning the West and turning to other partners. Xi's government is building ties through its Belt and Road initiative, an infrastructure blitz that has seen significant projects announced in Southeast Asia.

These include a $1.6bn highway straddling the Cambodian-Vietnamese border, as well as financial firepower supporting a rail link between Cambodia, Thailand, Laos and China.

“China wants to rewind the clock back more than 150 years when countries like Korea and Vietnam were vassal states,” says Xie. “They would trade with China under favorable terms, but the price would be loyalty. They want the same today.

“No country in Beijing's view should put the United States ahead of China.”

Xie says the plan is bearing fruit. “People say that China is becoming increasingly isolated. But in the past south east Asian countries used to badmouth China all the time. Nobody's bad mouthing China now.”

Whether or not this strategy works to boost growth, he believes that China’s strict covid approach is unlikely to disappear any time soon.

“You can be loved, or you can be feared. In the end, Beijing believes fear works better than love.”