Wealth managers who had been initially disappointed last week at the cautious tone they saw in China’s reform plans of its state-directed economy have become more upbeat after the full scale of plans were revealed at the weekend.

Wealth managers who had been initially disappointed last
week at the cautious tone they saw in China’s reform plans of its
state-directed economy have become more upbeat after the full scale of plans
were revealed at the weekend.

At the Third Plenary Session of the 18^th Central
Committee of the Communist Party of China, it issued a report that goes further
in first thought in calling for reform of state-owned enterprises, financial
deregulation, greater recognition of property rights, a relaxation of the “one-child”
policy and other measures.

Chinese equity market indices have rallied in the aftermath
of the Chinese announcements, reports have noted, due to the heightened optimism
associated with the reform proposals. China Life Insurance Co, the country’s
biggest insurer, and seen along with financials as a beneficiary, rallied as
much as 4.8 per cent at one state late yesterday (source: Bloomberg). The MSCI China Index
has chalked up total returns of almost 6 per cent this year so far. However,
the MSCI World Index of developed countries’ equities has fared better, with
total returns (capital growth and reinvested dividends) of 23.6 per cent.

“We expect the [China government] report to be
supportive for the Chinese equity market. We like the financial sector,
particularly the big banks, where valuations are most depressed. The other
beneficiaries include the clean energy and technology sectors, as well as
select consumer staple stocks, especially diary and diapers,” UBS Wealth Management
said in a note. (The last comment reflects on how it expects birth rates to
change.)

After a period of decelerating growth - prompting concerns
that the Asian giant might falter, triggering problems such as a property market
crash – Chinese policymakers in the country have wrestled with the issue of how
to reform in a more supposedly capitalist direction without surrendering the
decades-old control of the Communist Party. There have been fears of mal-investments,
such as “bridges to no-where”, empty cities and excessive spending on prestige
projects.

At Coutts, the UK-headquartered private bank said of the
plans that “economic liberty is set to improve dramatically” and, while
stopping short of the classical liberal model, it said the Chinese reforms
acknowledged the truth that resource allocation is handled more effectively in
a market economy than a centrally controlled one.

“While the state will still play a major role, market forces
and private capital should become much more influential. Latent fears of
insolvencies in the banking and local government sectors have been addressed by
steps to increase accountability and liberalisation,” Coutts said.

Long-term

UBS said it expects the reforms to have a positive impact in
the long term on the Chinese economy.

“We are encouraged to see the report de-emphasise GDP growth
as a performance measurement criterion for local governments, and put weight on
other areas that will improve the quality of growth, such as environmental
impact, reduction of industry overcapacity, and debt levels,” UBS said. “We
view this as a critical first step in reining in the excessive investment
activities of local governments and, thus, the rising debt level of the Chinese
economy,” it said.

UBS said a consensus GDP forecast for China of 7.4
per cent growth next year is conservative; the Swiss firm’s is pencilling in a
7.8 per cent rise next year.

Among the specific measures is development of a mixed
ownership structure to allow more private involvement in state-owned
enterprises, or SOEs and shift a portion of SEO shares to social pension funds
and use market-based employment terms and salary systems.

“This area is the major positive surprise given the wording
of the communiqué and the market’s low expectations,” UBS said.

On fiscal and tax reform, the Chinese authorities intend to
allow local governments to widen their financing channels, such as debt
issuance for construction projects and have the central government take back
some spending tasks in areas such as social security.

On the “one-child” policy, which has been in force since
1980 and is blamed for an imbalance between males and females in the
population, UBS said the relaxation of this controversial policy was not a
surprise. China’s
total fertility rate has fallen over the past decades to around 1.5-1.6, under
a replacement rate of 2.1.

Rural land reform, which seeks more channels for rural
collectives to sell land for construction and give more robust protection for
property rights, UBS said this change will drive urbanisation in the
still-predominantly rural country.

New tolerance

“There is a new tolerance for imposing market forces on
strategically important sectors and those where previous stimulus packages have
resulted in over-capacity and excess debt,” Coutts said in its appraisal of the
reforms.

“The document also sets out a blueprint that champions ‘good’
sectors that advance China’s
aims of boosting productivity while reducing the environmental damage that often comes with rapid change in developing countries. Within
the environmental protection and clean energy space, we believe that the
preferred sub-sectors of solar, waste-to-energy and natural gas will be net beneficiaries,”
it said.

“The imposition of market dynamics on sectors that have been
beneficiaries of easy credit from state-owned banks implies substantial
restructuring. The six industries where market forces will play a much more
assertive role will include water, petroleum, natural gas, electricity, transportation
and telecommunications,” Coutts continued.

“What we have here is a blueprint for a substantial overhaul
of the relationship between the state and individuals. As was the case two
weeks ago, it is naive to believe, as some quarters did, that the plenary session would
and can deliver virtually instant results. That was never a prospect and that
this was believed, mostly by commentators outside of Asia, shows how far we still have to
go before investors in developed nations pay the appropriate attention to the
history, embedded culture and on-going development in this part of the world,” Coutts
said.

“The great Austrian economist Friedrich von Hayek clearly
demonstrated in 1945 that markets are a superior means of allocating resources
and pre-judging the potential profitability of investment propositions. That China is now coming
to the same conclusion is a very positive sign indeed,” it added.