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China’s Zero-Covid Policy To Impact Oil Demand For The Foreseeable Future

For nearly three years, China has been implementing some of the world’s strictest pandemic control policies, imposing incessant lockdowns across the country, shutting down borders, and conducting mass-scale COVID-19 tests to contain the spread of the virus. Now, with Chinese leader Xi Jinping set to be granted an unprecedented third term as president, the zero-COVID policy appears cemented in stone.   
Millions of Chinese residents have grown wary of these stringent measures and have been wondering whether authorities may begin to ease them. But the latest developments suggest this will not happen any time soon.
Just a couple of months after reopening the economy, the main districts of Chinese tech hub Shenzhen has gone back into lockdown, extended curbs on public activities, and shut down public transport on Friday as cities across China continue to battle fresh COVID-19 outbreaks that have dampened the outlook for economic recovery.
Beijing has now handed down orders that residents in six districts comprising the majority of the city’s population of 18 million be tested twice for Covid-19 over the weekend, and employees must work from home.  
An exception has been made for employees who work in self-contained “closed-loop” operations, public services and essential supplies. For instance, in the southwestern metropolis of Chengdu, factories, including plants run by auto giants Toyota and Volkswagen, have kept production running under closed loops. Chengdu’s 21 million people were placed under lockdown on Thursday.
Back in May, the oil price rally came to a screeching halt after Beijing adopted a “Zero-Covid” strategy and announced strict Covid-19 containment measures, including major lockdowns. Whereas the strict lockdowns and curfews successfully slowed down the country’s latest Covid-19 outbreak, they had a negative impact on Chinese consumer demand and manufacturing output.
Ailing Economy
There are now growing signs that the Chinese economy may be entering a prolonged era of slow growth.
The world’s second-largest economy is projected to grow just 2% this year, significantly lower than the >6% it maintained over the past decade.
Maintaining a COVID-zero policy has been slowing the economy and adding huge additional costs to the government budget, leaving Beijing in a dilemma about whether to boost debt or tolerate weak economic growth.
Even before the spending pressures brought on by the pandemic, the economy was in trouble, most notably due to a slump in land sales revenue amid a housing slowdown, compounded by tax relief to businesses that cut government income. Indeed, official data shows the wide-ranging budget deficit reached a record nearly 3 trillion yuan ($448 billion) in the first five months of the year.
China is still facing severe economic uncertainty, and oil imports are one barometer.
China is the world’s largest importer of crude: last year, China imported 11.8 million barrels per day, outpacing the United States, which imports 9.1 million barrels per day.
Back in May, the oil price rally came to a screeching halt after Beijing adopted a “zero-Covid” strategy and announced strict Covid-19 containment measures, including major lockdowns. Whereas the strict lockdowns and curfews successfully slowed down the country’s latest Covid-19 outbreak, they had a negative impact on Chinese consumer demand and manufacturing output.
According to year-on-year (y-o-y) figures for April, retail sales fell by 11.1%, industrial production by 2.9% and manufacturing by 4.6%. Meanwhile, the Chinese yuan and the MSCI Emerging Markets Currency Index both fell in tandem in April.
The People’s Bank of China (PBOC) is still acting cautiously due to concerns about further yuan weakness, which can potentially trigger large capital outflows in a Fed rate hiking cycle.  The yuan and corporate bond yields fell sharply after the PBOC announced a cut in banks’ reserve requirements in mid-April. Since then, the currency has stabilized, but bond yields have started climbing again. Net debt issuance by the government clocked in at more than 700 hundred billion yuan ($104 billion) in both May, the two highest monthly totals since mid-2020, and more liquidity will be required from the PBOC if the rapid clip of local government debt issuance is going to continue.
Beijing will now be forced to either bring forward a larger part of next year’s planned quota or take other strong measures to bolster local government finances. It can also allow more off-the-book borrowing by city governments, although that would be difficult due to high bond yields. Unless Chinese policymakers act to sharply bolster local government finances and the PBOC is willing to risk more yuan depreciation, a weak rebound in the second half of the year is seen as the most likely scenario.
All these factors are taking a toll on oil demand.
OPEC has predicted that China’s oil demand will decline by 60,000 barrels per day this year, after forecasting an increase of 120,000 b/d only a month ago thanks to new lockdowns.OPEC has cut its demand growth view for 2022 by 460,000 bpd to 2.64 million bpd and for 2023 by 360,000 bpd to 2.34 million bpd, citing “the extension of China’s zero-Covid-19 restrictions in some regions, economic challenges in OECD Europe, and inflationary pressures in other key economies.”
The weaker outlook comes just a week after OPEC slashed its production quota by 2 million bpd, a move that has drawn stark criticism from the Biden administration.
So Why Zero-COVID?
Much of the blame is being laid, by Western media, on China’s vaccine status.
Beijing relies entirely on home-grown vaccines for COVID, and experts say they aren’t as effective as Western offerings, such as Pfizer.
While sufficient data is difficult to come by as China keeps a tight lid on information-sharing, a Hong Kong study cited by Barron’s suggests that Chinese-produced Sinovac needs three injections to provide equivalent protection to Pfizer and Moderna’s vaccines.
China is now trying to develop its own mRNA vaccine, similar to Pfizer and Moderna’s, but it’s fallen far behind as a result.
By Alex Kimani for Oilprice.com
Oct 25, 2022 13:15
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