Lianzhong Composites Group Co. Ltd. factory on November 26, 2015. Based in east China’s Jiangsu Province, the company is the world’s third largest and Asia’s No.1 wind turbine manufacturer (XINHUA)

In an effort to stabilize economic growth, the Chinese top leadership has set out a resolute plan for its 2016 course of actions. A strong commitment has been made to reform the supply side of the economy.

At present, the main theme of China's economic development is discovering, adapting to, and guiding the "new normal" situation, a conclusion reached at the annual Central Economic Work Conference held from December 18 to 21, 2015. While the Chinese economy has yet to tap into the full potential that its populace and businesses have to offer, a large number of obstacles have emerged.

In the first three quarters of 2015, the country's economic growth hovered around 6.9 percent. According to a statement released by the Central Government in November 2015, China's economy should maintain medium-to-high growth during the next five years, with a bottom line average annual increase of 6.5 percent. That implies that 2015's slowed growth rate is in line with--and even exceeds--the outlined national economic and social development during the 13th Five-Year Plan period (2016-20).

Therefore, the utmost priority should be given to stabilize growth, with supply-side structural reform becoming a major approach toward achieving that goal, according to the conference.

What does supply-side structural reform actually entail, and how will it bolster the Chinese economy? Strategically, the economy should continue growing at a proper pace and with adequate momentum while simultaneously ensuring stability. Tactically, the efforts undertaken by the government need to be divided in five ways: cutting excessive industrial capacity, lowering financing cost for companies, destocking housing inventories, financial de-leveraging and improving weak links to increase effective supply.

Li Zuojun, Deputy Director of the Institute for Energy and Environmental Research under the Development Research Center of the State Council, believes that the five tasks are inherently interlinked to each other. In 2016, the government will continue to pursue the strategy of innovation-driven development, and at the same time, integrate the removal of outdated production capacities with the promotion of entrepreneurship.

He noted that China's economy may continue to slow down during 2016, so the ultimate purpose of the reform is to foster new economic growth engines.

"Investment, consumption and export, which were valued as the 'three growth engines' of the past, are all demand-side economic drivers. However, something has gone wrong with the supply side in recent years," said Xie Taifeng, a professor in finance from the Capital University of Economics and Business.

On one hand, the issue of overcapacity is severe; on the other hand, domestic demand for high-quality products with high added value can't be met. "Therefore, [China's huge] consumer demand turned to the overseas market to satisfy their needs," said Xie.

In terms of opening up to the outside world, continued efforts need to be made in transforming China's foreign trade developments, shifting the focus from quantity to quality.

By carrying out the supply-side reform, weakening overseas demand for China's exports should be reversed. Excellent products could be supplied to lure in overseas consumers, so that the country's export industry can be restructured and optimized.

Slashing overcapacity

Overcapacity is not a rare problem after experiencing a period of high-speed growth, but its potential negative effects are tremendous and too dangerous to ignore.

From January to November 2015, the producer price index (PPI) experienced a decrease of 5.2 percent year on year, with the PPI in November slumping by 5.9 percent, according to figures from the National Bureau of Statistics (NBS).

"The PPI has undergone negative growth for 45 consecutive months--that is due to severe overcapacity," said Pan Jiancheng, Deputy Director of the China Economic Monitoring and Analysis Center under the NBS.

"Excessive production capacity often leads to an imbalance between the market's supply and demand, leading to a continuous decline of product prices. As a result of that, industrial profits and competitiveness will plummet, and the efficiency and innovation capabilities of excellent enterprises will be undermined," said Liu Yuanchun, Executive Director of the National Academy of Development and Strategy at the Renmin University of China.

Enterprises are an important pillar for economic development. Since their sales performance can't be improved immediately during a slowdown, lowering costs is the main method used to boost their profitability, according to Liu.

Though these enterprises are harassed by low efficiency and high liability, banks may continue handing out financial support to them, fearing bankruptcy, which has a negative effect for those companies with high efficiency and low debt, said Liu.

What's worse, in order to reduce the cost per unit of the products and to sustain operation levels, some enterprises have kept expanding their production capacity, which makes the situation deteriorate even more, according to Liu.

Yet, eliminating overcapacity is a tough battle. On one hand, enterprises with excessive capacity often struggle with mounting debts, and related debtor and creditor relationships may become further complicated. These debt chains may severely hinder the merging and reorganization of enterprises and trigger a chain reaction if not properly handled, claimed Cui Minxuan, Deputy Director of the Institute of Industrial Economics under the Chinese Academy of Social Sciences (CASS).

On the other hand, these companies are often engaged in labor-intensive industries and employ a large workforce. Over the process of cutting overcapacity and "zombie enterprises," large quantities of workers may face job losses and transfers, which may have an impact on social stability, stated Cui. Local economies and fiscal revenues may also bear downward pressures, Cui said.

"Not all the enterprises with excessive production capacity have to be completely eliminated, because the dissatisfactory performance of some enterprises is a result of inefficient corporate systems, organization and management. Merging and reorganization can lift quality and efficiency as well as attract new demand," said Wei Fengchun, General Manager of the Macro Strategy Department of Bosera Funds.

Wei believed that the measures being taken to eliminate overcapacity would go on smoothly with certain social policies being put in place. While respecting the market's role of allocating resources, the government will try their utmost to defuse risks and reemploy workers.

Reducing housing inventories

At the end of November 2015, commercial houses for sale in China stood at 696 million square meters, an increase of 10 million square meters from the end of October, according to statistics from the NBS. While the stockpile of unsold homes continues to rise, houses currently under construction totaled 14.06 million square meters from January to November. That is to say, new houses are still flooding into the market.

According to a report on China's housing development from 2015 to 2016 released by the CASS, by the end of 2015, China's commercial housing inventories had been expected to reach 3.996 billion square meters. Of which, 426 million square meters are complete apartments, meaning that it will take approximately 23 months to sell out that housing inventory figure. In addition, 3.57 billion square meters are forward delivery houses which will require about 4.5 years to be digested in the housing market.

"It's essential to find potential consumers, and for the time being, the urbanization of migrant workers is a major source," said Li Tie, head of the China Center for Urban Development of the National Development and Reform Commission. Li believes that giving permanent residence permit to migrant workers will drive a new round of consumption and infrastructure construction.

If only the identity of migrant workers as urban residents could be confirmed by reforming the household registration system, the migrants would be able to move their consumer behavior from rural to urban areas, he said.

At the supply end, the scale of new real estate projects should be contained, and the number of unfinished buildings should be reduced through the merging and reorganization of housing developers, said Ni Pengfei, Director of the Center for City and Competitiveness of the CASS.

On the demand side, the simultaneous development of the purchase and rental markets was recommended to expand public rental housing to the population without local household registration. Besides that, to develop the house renting and leasing market, individual and institutional investors will be motivated to purchase commercial houses and become landlords or property suppliers, and the increase of professional companies specializing in house renting and leasing will be encouraged.

"Reducing the housing stockpile requires continual effort. During the process, government policies should be in accordance with the market, which should play a decisive role. Institutional thresholds should be broken up by reform," said Li Tie, suggesting that urbanization is a vital engine for consumption.

"More importantly, the government should stop seeking profits from both land transfers and real estate development, and recognize the role of the market," he said.

Copyedited by Bryan Michael Galvan

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