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The decision is made: outcomes of the Third Plenum
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2014-01-06

John Russell summarizes the key points of the ‘Decision on Major Issues Concerning Comprehensively Deepening Reform’ from the Third Plenum of the 18t Central Committee of the Communist Party of China (CPC) and gauges the impact that it may have on European Chamber members in an article in EURObiz.
 
November the ‘Decision on Major Issues Concerning Comprehensively Deepening Reform’ (Decision) from the Third Plenum of the 18 Central Committee of the Communist Party of China (CPC) was released. It provided details on the reform programme put forward by the new administration of Xi Jinping and Li Keqiang, and compared to documents released after previous plenums its breadth and relative specificity exceeded the expectations of most commentators. In the following article  John Russell from North Head summarises its key points and gauges the impact that it may have on European Chamber members. 
 
To effect economic reform and transformation, the CPC has embarked on an ambitious programme of change management. Notably, a Leading Small Group on Deepening Reform will be established to help to clarify priorities and sequencing. Later it will coordinate and drive the reform process. 
 
State-owned enterprises (SOEs) will continue to play a predominant role in many sectors, with additional emphasis on making them more efficient through market mechanisms and more accountable via increased dividend payments. Efforts to promote markets will also give more space to private capital and increased latitude for private businesses. 
 
Market access and regulation are both increasing as the government changes its role from that of market manager towards that of policymaker and regulator. Investment approvals, registration procedures and administrative hurdles are being reduced and/or simplified. Concurrently, environmental regulations and those regarding food, drug and product safety are becoming increasingly stringent with more punitive enforcement. Notably, the Bureaux of Public Security are tasked with regulatory duties in some areas. 
 
Incremental changes to the household registration system and one-child policy signal a clear direction for further easing. Restrictions for  will persist for the very large cities, channelling urbanisation into small- and medium-sized cities. Policies that will expand social safety nets, increase wages and liberalise financial markets will likewise contribute to increased consumer spending and should drive growth in healthcare, fast-moving consumer goods, logistics and other services. 
 
The Shanghai pilot Free Trade Zone (FTZ) is expected to be replicated elsewhere across China. These FTZs will be instruments for promoting overseas direct investment (ODI) and the emergence of Chinese multi-national companies (MNCs). Free trade zones will also test further opening up of financial services that could facilitate the establishment of robust regional headquarters for international MNCs on the mainland. Nationwide, permitting small and medium private banks should enhance competitive markets.
 
Innovation was less prominent than past years as a prime vehicle of economic transformation; previous policies of “indigenous innovation” and “strategic emerging industries” were not mentioned. Having achieved rapid growth of R&D funding, policy emphasis has shifted to efficiency reforms, reduction of waste and increased transparency and accountability. Significantly, the establishment of IPR courts is to be explored. 
 
Local governments will attempt to address revenue shortfalls by expanding the tax base with property, consumption, resource and environmental taxes. Incentives for officials are evolving, with less focus on growth and more on environmental protection, social welfare and economic efficiency. Importantly, fiscal soundness is a new criterion. This changes officials’ key performance indicators and, consequently, their expectations for business. Understanding official incentive structures is important for anticipating policy directions and optimising business operations. 
 
Xi has seemingly consolidated his position among CPC factions and proven himself an effective leader thus far. Establishment of the Leading Small Group on Deepening Reform and a National Security Commission will centralise power over domestic and foreign affairs. He headed the Decision drafting group, then took the unprecedented step of issuing a public explanation of them. His political reputation now rests on carrying out the reform plan. 
 
The Decision sets out an ambitious reform agenda that has the potential to profoundly affect the business environment in China. However, it is still early days. Details of how to implement the reforms have, for the most part, not been decided. Implementation will be difficult due to the complexity of reforms and the capacity of vested interests for creating inertia and resistance; effective enforcement is another hurdle. 
The composition of the new Leading Small Group on Deepening Reform and a series of high-level meetings this winter should help to further clarify the pace and sequencing of reforms. 
 
Xi has emerged from the plenum appearing to be a strong leader capable of coordinating interests and instituting change. His reputation now rests on fulfilling high expectations set by the plenum. He faces another challenge at the fourth plenum in late 2014 where the thorny issue of political reforms will be addressed. 
 
For European Chamber members the overall direction of change seems to be one that will benefit business. Broadly speaking, markets will be given an expanded role in determining economic outcomes. However, it must be remembered that expanding market forces is not a terminal objective for the party, but rather an enabling objective to create a stronger national economy and a stronger party. 
 
While the proposed reforms should widen market access and create a more level playing field for MNCs they will also, in the long run, create stronger Chinese competitors from both the state-owned and private sectors. 
 
Neither Brussels nor Washington has been able to drive an economic reform agenda of such ambition and latitude. China is the only major economy where ‘reform’ is institutionalised in the very structures of governance. It is an important reminder that China is constantly changing at a pace that those accustomed to mature markets would find disconcerting. 
 
The plenum will initiate a complex set of new regulations and policies that present companies with both opportunities and risks. To optimise operations, companies will need to ensure that they have robust methods for monitoring the policy reforms, accompanying regulatory changes and market developments.