China reported a 3.2% year-over-year real Gross Domestic Product (GDP) growth in the second quarter, signaling a resilient recovery from the pandemic shock. That said, the economy is still facing unemployment pressure from the below-trend growth, hence policymakers will likely support the economy with more stimulus measures.

Fiscal policy remains the major channel for stimulus, but with different approaches than the universal cash payments to households and enterprises in Europe and the U.S. Instead, the government continues to promote infrastructure projects as a way to create jobs and boost long-term economic potentials. A total of RMB 2.27trillion in special local government bonds had been issued through the end of July, which provided strong support to infrastructure investment. There is still an RMB 1.48trillion issuance quota remaining for the rest of this year, and the central government keeps pushing for bond issuance and project starts at the local level.

On the one hand, the economic recovery allows the central bank to maintain a balanced monetary policy stance with a focus on supporting specific sectors within the real economy. The People’s Bank of China (PBoC) will rely on its structural tools to inject liquidity into the market and support certain sectors including small and medium-sized enterprises (SMEs), inclusive finance and technology sectors. On the other hand, the central bank will likely keep policy rates unchanged while further controlling speculative activities in property and financial markets.

Beyond the traditional operations abovementioned, it is noteworthy that the government is aggressively escalating its efforts to support domestic technological development amid the elevating geopolitical tension. On August 4, a tax holiday as long as 10 years was announced for chip manufacturers. Meanwhile, initial public offerings keep accelerating on the ChiNext and STAR boards, the two venues for technology listings. 

Exhibit 1: China: fiscal policy

Source: CEIC, J.P. Morgan Asset Management; (Top and bottom left) Ministry of Finance of China; (Right) National Bureau of Statistics of China.
*Fiscal revenue includes taxes, government funds, which are mostly derived from local government land sales, and other government revenues. Fiscal expenditure includes government spending of funds raised from taxes, government funds and general bond issuance. **Local government general bonds are issued to raise funds and offset fiscal deficits so as to maintain the ordinary operation of local governments. They are backed by the future fiscal revenue of the local governments. Local government special bonds are issued to support specific infrastructure and public projects. They are backed by the future revenue generated from the projects.
Guide to the Markets – Asia. Data reflect most recently available as of 17/08/20.

Investment implication

The PBoC has maintained a balanced monetary policy while the U.S. Federal Reserve and European Central Bank have been conducting aggressive asset purchases. As a result, Chinese treasury yields remain higher than those developed market issuers, and the renminbi has appreciated against the U.S. dollar. These factors make Chinese bonds attractive for foreign investors, evidenced by the RMB 146.3billion in inflows into onshore central government and policy bank bonds in July. The inflows might be sustainable as long as the monetary policy difference remains, making Chinese bonds increasingly important for global investors’ strategic allocations.