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August 27, 2020

Asia

CHINA: New “dual circulation” policy aims to hedge decoupling risks

BY Gabriel Wildau

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( 5 mins)
  • New economic strategy reflects the Chinese leadership’s recognition that they can no longer rely on unfettered access to foreign export markets and key foreign inputs.
  • China is not abandoning globalization, but Beijing is seeking a hedged integration that preserves the benefits of globalization where possible, while also shoring up the vulnerabilities that interdependence creates.
  • The strategy remains vaguely defined but is likely to focus on boosting domestic demand, reducing reliance on foreign technology, and shoring up weaknesses in domestic supply chains.

China’s top leadership is promoting a new policy slogan – “dual circulation” – that appears poised to become the defining concept for economic policy in the age of Covid-19 and US-China geopolitical rivalry. The Communist Party’s elite Politburo Standing Committee first mentioned the slogan in May, and a previous note briefly discussed its possible significance, but the phrase was initially ill-defined. In recent weeks, however, further statements – including by President Xi Jinping and his top economic policy advisor, Vice Premier Liu He – have fleshed out the term’s meaning.

The Politburo Standing Committee defined the strategy as “a new development pattern that takes domestic circulation as the main body with domestic and international circulation reinforcing each other.” At its core, dual circulation is a strategy to boost the Chinese economy’s resilience against a more hostile international environment and the uncertain trajectory of global export demand as the world slowly recovers from Covid-19. “Circulation” refers to the flow of goods, services, and other economic resources.

The strategy is based on a recognition that US-China geopolitical tensions are likely to persist and that some degree of supply-chain decoupling is inevitable. As a result, China can no longer rely on unfettered access either to foreign export markets or to key foreign inputs. The recognition is based on the impact of US tariffs, export controls targeting Huawei, pending actions against TikTok and WeChat, and the looming threat of financial sanctions. Rather than passively absorbing the economic shock from decoupling, Beijing seeks to influence the terms on which decoupling will proceed.

Dual circulation emphasizes boosting domestic demand and re-orienting domestic production to meet that demand. This re-orientation includes increased focus on “self-reliance,” a concept that connotes import substitution and reduced dependence on foreign technology. In describing the new strategy, Xi emphasized the need to “protect industrial supply chains.” Like “self-reliance” – a term that dates to the Mao era but had fallen out of use until 2018 – “dual circulation” echoes China’s earlier “international circulation economic development strategy,” introduced in 1987, which focused on the development of export-oriented manufacturing.

To be sure, China is not turning completely inward or abandoning globalization. Since the trade war began, policymakers have re-doubled their efforts to attract foreign investment, and in the same speech in which he outlined the new strategy, Xi insisted that “China’s door will not be closed.” Indeed, Beijing’s forbearance in not retaliating against US companies in response to US sanctions targeting Huawei and other Chinese companies reflects the leadership’s recognition of the risk that retaliation would ultimately harm China’s own economy by pushing out foreign business.

Nevertheless, dual circulation aims to hedge the risks arising from excessive reliance on global markets. The strategy envisions a kind of hedged integration that seeks to preserve the benefits of integration where possible, while also shoring up the vulnerabilities that interdependence creates. In some respects, the strategy is an updated version of Beijing’s earlier efforts to “re-balance” China’s economy towards domestic consumption, a concept that then-President Hu Jintao introduced in response to the global financial crisis in 2009. That policy involved tax cuts and subsidies for household purchases of durable goods. It also involved efforts to develop services sectors like tourism, entertainment, education, and online retail to reduce the economy’s reliance on housing, infrastructure, and export-oriented manufacturing.

The concrete policies associated with dual circulation are not yet clear. New initiatives will likely be revealed in China’s 14th Five Year Plan, which covers 2021-2025 and which the party’s Central Committee will begin drafting at its fifth plenary session in October. These initiatives may include updated versions of earlier policies to encourage household consumption, but the focus may shift away from development of service industries and towards shoring up weaknesses in manufacturing supply chains and strengthening China’s position in high-end manufacturing. In line with the focus on self-sufficiency, the government will continue to increase investments in research and development and subsidies for strategic industries like semiconductors that currently rely heavily on foreign suppliers.

Dual circulation may ultimately emerge as a successor to an earlier policy mantra, “supply-side structural reform,” which similarly grouped a diverse range of policy initiatives under a single high-level slogan. Supply-side reform encompassed debt reduction, closure of unprofitable “zombie” enterprises in overcapacity sectors, and measures to digest large inventories of unsold housing. While initially dismissed as a hollow slogan, the concept eventually exerted a significant influence on China’s economy and was enshrined in the party constitution in 2017.

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