Latest / Look Forward / China's Industrial Policy Reset: Autonomy and Productivity | Look Forward Ep. 38

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China's Industrial Policy Reset: Autonomy and Productivity | Look Forward Ep. 38 · Look Forward

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Hello, and welcome to the Look Forward podcast powered by the S&P Global
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Institute, the platform for enterprise thought leadership across S&P Global.
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I'm Naki Mendoza, executive conference director for CERAWeek,
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and I'll be your host today.
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Markets are moving faster, risks are shifting, and
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decision-makers need foresight.
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In this podcast, we bring you expert perspectives from across S&P Global on
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the macroeconomic, market, energy, and technology forces shaping what comes
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next, helping you navigate uncertainty and look forward with confidence.
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In this episode, we are looking at China, economic juggernaut,
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manufacturing powerhouse, and as a result, a geo-economic force.
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Over the past decade, China's industrial policy has often been described
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in headline terms: self-reliance, subsidies, capacity expansion.
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But new S&P Global cross-divisional research suggests something
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more nuanced is underway.
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The Chinese government is now operating under what we call a dual
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industrial mandate, autonomy on one side, productivity on the other.
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This matters not just for China, but for global supply chains, competitors,
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and policymakers trying to understand where China is heading next.
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To unpack this, I'm joined today by Aries Poon, one of the lead authors of
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this research, also one of the co-hosts of this very Look Forward podcast.
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We're turning the tables around where host becomes guest, and we look to
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Aries for insights on the findings and insights from S&P Global's research.
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Aries, welcome as a guest to the podcast.
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Thanks, Naki.
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It is good to be the guest for a change
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Indeed.
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Well, let's start with the big picture.
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It's been widely understood that China has always pursued industrial policy.
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So what's actually new about this current phase, and why do you characterize
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it in this research as a dual mandate of autonomy and productivity?
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That's a very good question.
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So what, um… You're right, China has always have an industrial policy.
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But what is different this time is how it is framed and
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what it is trying to correct.
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Because, uh, what we can see is the current approach is increasingly
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organizing around what we call a dual mandate, as you mentioned, on the…
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So imagine there are two pillars.
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On the one hand is the autonomy, on the other hand is the productivity.
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So what we mean or what the Chinese government means by product, uh, autonomy
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is the attempt to, um, reduce, um, exposure to, um, external vulnerabilities
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in areas such as advanced technology, critical inputs, and supply chains.
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And the other pillar is productivity, which is an attempt to address
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the diminishing returns from the investment-led economic model
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that we have seen in previous, uh, years, and also the aim to improve,
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uh, efficiency on the long term.
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So this dual mandate actually is, um, what we do see is marking a
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shift from previous focus, which are primarily emphasizing on, um, uh,
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capacity building and scale expansion.
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The main reason for that shift is because the national security principle
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is now becoming the central organizing principle of economic policies.
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At the same time, um, China has been for years building a large industrial
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base and, uh, the policymakers is making it more explicit in extracting
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gains from the efficiency of this base that they have been building.
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So, um, in short, yes, there is some, uh, industrial policy.
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You know, it's still industrial policy, but what is new is the
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attempt to reconcile this, um, strategic autonomy with, um, economic
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sustainability while facing tighter domestic and external constraints.
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If this indeed is a new shift in strategy, how and, and when did this
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repurpose strategy begin to evolve?
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Uh, good question.
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Um, I would frame, I would frame that as a, um, a sort of like a years-long
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evolution of the focus of industrial policy by the Chinese government, um,
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because the autonomy and the productivity framework actually would be, you know,
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best understood as they were emerging policy directions and, uh, slowly becoming
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visible over the last few years and now being embedded systematically in the
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Chinese government's long-term planning.
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Because when you… when we look at the previous sort of policy, which is the
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14th five-year plan, um, they're already a strong component of, um, technological
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self-sufficiency and reliance.
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But in the current framework, which is the 15th five-year plan, the
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national security, as I mentioned, is becoming the central organizing, uh,
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principle, uh, for economic policy.
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So in short, um, the dual mandate arguably has already, um, begun, but what
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we're seeing now is not a sudden policy shift, but more a gradual evolution,
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um, from earlier focus on capacity expansion to right now is more a, a more
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balanced policy intent to achieve both, um, autonomy and productivity gains.
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Yeah.
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So let's dig into these two mandates.
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Autonomy, understandably, it gets most of the attention,
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especially in semiconductors, chips, AI, and critical inputs.
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But your report, it also emphasizes that productivity is not secondary.
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Why has productivity become so central now?
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The simple answer is, um, so I'll give you…
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Take a, take a step back.
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So productivity is carrying a much bigger weight in the policy conversation in
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China these days, mainly because the previous attempt on capacity expansion,
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scale building, has run into its limits.
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In fact, when we look at China's productivity growth, it started
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slowing even before the pandemic.
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So our, our team identify at, at least three reasons for that.
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Number one is, um, China was approaching the so-called technological frontier.
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Number two is more state, um, or more resources were being channeled
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into state-led investment, where many of those did not effectively
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translate into efficiency gains.
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And the last one is domestic, uh, consumption or demand, uh, remaining weak.
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You know, we all know, for example, the property downturn has weighed on not
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only, uh, household consumption but also weighing on the local government finances.
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And we've also seen pockets of softness in manufacturing in some
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sectors across the economy, even though the overall top-line number as
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a manufacturing supply remains strong.
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So that means simply investing more is not going to solve the problem.
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In fact, what they are trying to do is trying to generate more output or,
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um, encourage more innovation, more competitiveness through better use of
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resources, not just more resources.
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That's why you're going to see in the current policy conversation, we've seen
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a lot of mentioning on consolidation, on, um, uh, technological adoption
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and market discipline and so on.
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So autonomy, it explains where the state is focusing resources, but
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productivity, as you've explained, it explains why the m- old model is no
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longer working as efficiently as hoped.
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So that brings us to how this dual mandate manifests across different sectors.
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Let's start with advanced manufacturing and AI, areas like
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chips and AI infrastructure.
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Based on the report, it seems that China appears willing to tolerate
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inefficiencies at higher costs.
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So how does that fit into the autonomy productivity framework?
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Yes.
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So, um, in the advanced, um, manufacturing areas or AI areas, obviously the autonomy
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pillar is going to be the dominant pillar.
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However, we would argue, or our report actually argues, that
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it's not actually that divorced from productivity consideration.
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So I will bring in two points to illustrate that.
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Number one is, yes, um, in, uh, uh, um, in areas like semiconductor
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tooling or AI hardware, um, the Chinese government is willing to tolerate
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inefficiencies in the near term.
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So we're talking about is lower yields or higher costs.
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And the main reason is they want to build a stronger domestic ecosystem
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and also reducing reliance on foreign inputs or what they call
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choke points, foreign choke points.
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At the same time, this is where pro-productivity comes in because
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China also has a plan or framework, what it calls AI plus framework.
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What that means is a deliberate diffusion of AI into various sectors
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where they could also grow in productivity with the help of AI.
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For example, manufacturing, healthcare, education, et cetera.
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So the logic here is, first, go for autonomy so, so to build capacity,
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then they will try to get productivity from building scale and application.
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Well, but I have to, I have to say this is the policy intent, and I'm… Of
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course, we'll later discuss whether this is, um, this is a viable or whether this
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is a, an expensive route to achieve what the Chinese government wants to achieve
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And then on the other side of the coin from the emerging next
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gen technologies and industries are the more mature sectors, EVs,
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renewable energies, even shipping.
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Uh, these are sections that have special pullouts and spotlights
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shined on in the report.
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In these more mature sectors, the policy stance, it looks different, and
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indeed, the report highlights these as particular successes, as success stories.
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What are policymakers trying to do here in those sectors?
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So in these, uh, sectors, um, obviously the productivity pillar is becoming more
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visible and more dominant because in, uh, areas you mentioned, um, China already has
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attained a global leading scale, right?
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Already have very large scale.
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And the problem is the scale also comes along with overcapacity, pricing pressure
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and margin compression, which means that what the government is or will likely
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doing… w-w-will likely to do, to do is to shift from a, from a system where there
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is blanket subsidies or blanket support and shifting into more conditional and
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selective, um, support, uh, mechanisms.
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Uh, w- in this case, we would like, we would see greater emphasis or policy
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emphasis on, uh, market consolidation, exit of weaker players, um, competitive
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auctions, stricter approval, uh, project approvals and et cetera.
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So in the examples you mentioned, for example, EVs or renewables, we
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do see, um, the, uh, direct purchase subsidies have largely ended.
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And what is left is, uh, indirect, uh, subsidies because the main policy
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intent really is to, um, force the firms to compete and innovate rather
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than surviving on policy support alone.
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So the whole idea actually is trying to convert past capacity
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expansion into more sustainable, um, competition for those sectors.
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As we look across the different sectors and the levels of maturity and maturation
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across the industrial sectors, this would seem to create an inherent tension.
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You're at one-- on, on one hand, they're pushing scale in strategic
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sectors while trying to rein in excess capacity elsewhere.
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How difficult is it for policymakers to manage both sides at the same time?
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You are right on point, Aki.
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In fact, it is extremely challenging, and the tension would likely
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run through the entire system.
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So let's look at the pillar again.
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For the autonomy pillar, it actually requires long-term patient capital.
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Um, but when you think about it, it is exactly this… A-and also
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state direction, state intervention.
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It is exactly these conditions that gave rise to the incentives to overinvest and
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to misallocate resources that we have seen all-- in, in, in, in, in, in past decades.
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And the other pillar is productivity.
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So productivity requires, um, more efficient allocation of capital,
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uh, more market discipline, and, uh, stronger, uh, domestic demand.
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And all of these could be quite hard to achieve under a system where,
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where, where it is heavily guided by, um, the state direction and also,
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you know, with, uh, in addition to the local government involvement.
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So here the catch is execution, right?
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The execution and also incentive alignment, they are key to
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translate the policy intent into the outcomes consistently that the
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government is trying to achieve.
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I want to switch to the external environment and externally, China's
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dual mandate approach, it's facing a global economy that's being shaped by
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many forces: trade frictions, export controls, supply chain diversification,
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industrial policies that are in part a response from trading partners who see
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China's industrial stance through the lens of what you referenced earlier,
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overcapacity and price competition.
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So how does this dual mandate affect China's relationship with
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global markets and trading partners?
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That actually is a very good question.
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In fact, from the point of view of other countries outside of
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China, they would likely see China actually sending out mixed signals.
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Because on the one hand, um, China will, will still rely on external
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markets, right, overseas markets, and to, to, to, to beef up GDP, to
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absorb some of the surplus output.
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This will not go away.
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But at the same time, China is also trying to improve its strategic autonomy.
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That means China might more likely to employ tools like export controls,
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domestic substitution, and, um, strategic resources, um, policy and et cetera.
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So these policies are actually running into or creating tensions
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with the trading partners who themselves are also trying to de-risk.
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So, um, the result would be we'd still see integration, but it's not
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like a broadly open integration.
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It will be more, it will, it will be, it will be subject to more political
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and regulatory constraints, number one.
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Number two is the trade patterns will be a lot more segmented and
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conditional rather than broadly open
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You know, Aries, one striking element in this report is uncertainty around payoffs.
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What are the biggest risks that could prevent autonomy-driven
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investment from translating into sustainable productivity gains?
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So our team identifies at least four types of direction of risk that will
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potentially prevent China's dual mandate approach to achieve the autonomy or
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productivity gains that it, uh, aims.
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Uh, number one is capital misallocation remains a concern because here we do
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see there is a heavy, uh, direction from the state as in, you know, where
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the investment should be channeled.
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Um, so that's number one.
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Uh, instead… number one.
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Number two is the weak, um, consumption.
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So if domestic consumption in, in China remains weak for longer, w-
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that will inhibit the, uh, economy's ability to absorb the dom- the
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output that it produces domestically.
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And that means China will even more needing the external markets
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to absorb its surplus output.
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And in, and but at the same time, autonomy, uh, remit is still there,
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so that will be creating even more tension with trading partners.
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But this is on a big if, which is, you know, the, the, uh, domestic consumption
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remains w- weak for a much longer time.
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And the third one is, um, technological uncertainty.
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If we had this podcast, uh, if we had this podcast 10 years ago, probably we
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would not be talking about AI, right?
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And, um, so you can see technology shifts very quickly.
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So today's investment into t- cutting-edge technology, how long
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that payoff is going to last, how long that the country's edge is going
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to be maintained by the investment today actually is always a question.
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But again, this one is not unique to China.
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It's actually applicable to every country.
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And the last one is unique to China is the local government, uh, local
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government level, uh, uh, in, uh, governance and, um, uh, coordination.
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Because in China you always have the policy which is very sound from the
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central government, but then it gets to…
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but because it needs to reach the local level to get deployed and to
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execute, and oftentimes there is a misalignment of incentives between central
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government and the local government.
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And at the end, uh, you know, the local government's, um, different incentives
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I mentioned earlier that might dilute the overall, uh, policy, um, uh, impact.
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So, uh, our team identified basically these four areas of
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risk that might derail, um, the, the, the, the, the policy.
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Could you maybe just say a word on that, on the, the discrepancies
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perhaps between the central government and the local governments?
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It's, it's a, it's a very important topic, not least of which because,
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um, bureaucracy is often associated with, uh, the Chinese state and
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just the layers of governance.
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So maybe elaborate on that point p- perhaps.
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It's mainly because the local government faces a very different
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set of finan- fiscal constraints.
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For local governments, they get the in… they get the revenue from local taxes,
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from local infrastructure projects, and housing projects, and, you know,
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and, and, and other businesses as well.
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However, for central governments, actually they get a tax income from
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mostly the, the different provinces or different local governments.
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So they face very different fiscal constraint, which means that, um, because
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the property sector is not doing well, so one of the key income from the, for the
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local governments actually is weakened.
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And which means that they have even more incentives to tied, uh, their projects
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or to tie the investment towards things or towards projects that would bring
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them jobs, that would bring them economic growth so that they could, so that that
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could bring them the necessary finances to make sure that they are staying afloat.
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And these are the concerns that largely do not exist or do not
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apply for central governments.
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That's why these are the different, uh, uh, uh, or misalignment
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of incentives between, uh, the central and the local governments.
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We've covered a lot in this conversation, and there's a wealth
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more to dig into in the report itself.
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Uh, I have my takeaways based on this conversation, but as we, as we look to
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wrap, Aries, I wanna ask you if you could summarize some of the main takeaways
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for those that are, are launching into this report for the first time.
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What are the main things in a executive summary sense, in a wrap-up sense
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that you would like a reader to take away to know from this report?
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Sure, that's a good question.
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So I think, uh, the key idea is China's industrial policy is shifting away from
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s- sheer capacity building and, um, scale expansion into more selective
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approach, um, in expansion, where they would try to aim for the dual goals,
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which is, um, reducing the exposure to, um, external vulnerabilities.
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That is the autonomy pillar.
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And also, um, reviving the diminishing returns, uh, from
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investment that has been plaguing the economy for the past, um, decades.
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And with China doing this, this is the policy intent, very sound, very strategic.
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But at the end, whether the economic, uh, w-whether there will
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be economic payoffs, whether China can achieve the goal, depending
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on a lot of, uh, on the execution.
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And in that part, um, the local government involvement, incentive
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alignment will be very critical to the success of the, um, policy.
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Excellent.
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So no longer just growth at any cost, nor is it necessarily
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purely about self-reliance.
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What I'm hearing, Aries, is that it is an attempt to balance autonomy
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with productivity, state direction with market discipline, and that
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balance, that tension remains fragile.
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For global firms, investors, and policymakers, understanding how
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this dual mandate operates is becoming central to navigating
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China-linked risk and opportunity.
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If you'd like to dive deeper into our research and our blog
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posts, visit spglobal.com or Look Forward Institute Resources.
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You can also connect with Aries on LinkedIn.
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Thank you all for listening to the Look Forward podcast.
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Aries, thank you for being the guest.
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If you enjoyed this episode, please subscribe to Apple Podcasts, Spotify, or
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YouTube, and we will see you next time.
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Thank you, Aries