China can’t escape economic pain of its zero-Covid policy as case numbers rise and cities brace for lockdown

As China faces its biggest Covid-19 outbreak yet, the economic impact of the government’s strict approach will make it difficult to meet annual growth targets
There are signs the policy is being recalibrated to prepare for living with the virus, but the moderation will do little to ease growth pains in the near term

Aidan Yao

Published: 4:30pm, 6 Apr 2022

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A vicious flare-up of Covid-19 cases is presenting China with its toughest public health challenge since the onset of the pandemic. With more than 38,500 confirmed cases and 70,600 asymptomatic cases accumulatively, March 2022 was the single biggest month of reported coronavirus infections, outstripping February 2020’s 69,500.

While these numbers still look tame relative to those of developed countries which have long given up fighting the virus, they are shockingly large for China with its “zero-Covid” approach, supposed to insulate the country from the pandemic.

Some policy mistakes – such as late and ineffective responses – and a lack of adequate appreciation for the higher transmissibility of the new variant are likely to blame for the current predicament.

China’s experience over the past two years shows that the zero-Covid strategy is the most effective when it is implemented swiftly at the start of an outbreak. Stamping out the infections before the virus has a chance to spread is key to keeping the overall cost of the strategy low even if it involves implementing some draconian measures for a short period.

The challenge now is that not only has the virus become more nimble and transmissible, China has also probably missed the optimal time to confine infections. With more than 20 provinces and regions reporting local cases, putting the genie back in the bottle will take greater efforts and incur heftier costs.

The economic cost of strictly adhering to a zero-tolerance approach is mounting as a growing number of cities implement lockdowns. Shenzhen put its economy on hold for a week in late March and was successful in stamping out the outbreak. Shanghai – China’s largest city with 24 million people – has been in a two-phased lockdown since last week. But significantly higher infection rates – partly due to the city’s late response – mean that the battle may take longer to win.

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Beijing Railway Station empties as China battles its largest Covid-19 outbreak

At the time of writing, there are 60 areas in China labelled as high risks and 351 as medium risk. Together, they account for about a quarter of the economy and population. Even halting activity for a brief period could mean severe disruptions to the economy and society.

Putting a precise number to the growth shock is no easy task. There are simply too many unknowns – pertaining to the length and breadth of the outbreak, the type of containment measures employed (not all affected regions will engage in full lockdowns), and how production can be shifted across supply chains to avoid output losses.

But what is clear is that economic growth has contracted sharply in March, on a sequential basis, consistent with the weak PMIs last week. As Covid-19 woes persist, April could be even worse if more regions upgrade social and mobility restrictions. With little prospect of growth in the first half of the year, the odds of China achieving this year’s 5.5 per cent GDP growth target are becoming increasingly slim.

To turn around the economy, there are two possible paths. The first is that the zero-Covid approach proves victorious again at fighting the outbreak, leading to a quick resumption of economic activity. Shenzhen’s experience shows that Omicron is not uncontainable, but replicating this success in other regions with less resources and inferior health infrastructure could be a challenge.

The second is that Beijing drastically scales back containment measures, so that the economy can reopen even as the pandemic rages on. The chance of that happening is low, however, given the risk to social stability among a public where fears of the virus are still elevated.

With less medical resources (on a per capita basis) than developed countries and low vaccination rates among the elderly, Beijing is likely to err on the side of caution by still relying on administrative controls even at rising economic costs.

Shanghai lockdown life: the daily food scramble and stray cat envy

That is not to say that there is no middle ground. The recent policy changes announced by China’s National Health Commission – such as permitting asymptomatic patients to be group-quarantined (as opposed to hospitalised), approving antigen testing kits for early virus detection, introducing antiviral drugs, and allowing cities to implement tailor-made policies – are all signs that pandemic strategies are being recalibrated without removing the zero-tolerance principle.

One could also see these moves as a sign of Beijing laying the groundwork for an eventual shift towards “living with the virus”. But for the economy, this is the darkest moment before the dawn as the middle-ground approach does little to ease growth pains in the near term.

Aidan Yao is senior emerging Asia economist at AXA Investment Managers