China Is Ending Its “One-Child Policy” — Here Are The Implications

Back in 1978, the Chinese politburo enacted the “one-child policy”, whose main purpose was to “alleviate social, economic, and environmental problems” in China as a result of the soaring population. According to estimates, the policy prevented more than 250 million births between 1980 and 2000, and 400 million births from about 1979 to 2011. And while not applicable to everyone, in 2007 approximately 35.9% of China’s population was subject to a one-child restriction.

Regardless of the numbers, things are about to change: with the Chinese economy now having peaked and suddenly finding itself in rapid deceleration with excess credit growth providing virtually no boost to marginal growth, the Chinese government is forced to reexamine 35 years of social policy in order to extract growth from the one place where for nearly 4 decades it had tried to stifle: demographics.

According to the 21st Business Herald which cited sources close to the National Population and Family Planning Commission, China may relax its one-child policy at end-2013 or early-2014 (read end) by allowing families to have two children if at least one parent is from a one-child family. A plan for allowing all families to have two children after 2015 is also being reviewed.

According to Bank of America’s Ting Lu, the news is reliable and is in line with the bank’s view. BAC expects around 9.5 million babies to be born as a result of such reform. China’s A-share market welcomed the news on Friday with baby-related stocks up sharply.

To say that this is a paradigm demographic shift at the world’s most populous country is an understatement. And while we will provide further analysis in the days to come, here is Bank of America’s cursory assessment of what this will mean for the Chinese economy.

We are optimistic that an end to the one-child policy will soon be confirmed. In fact, in our report Post-leadership change reform: End of the one-child policy? (24 Jan 2013), we predicted that the window for the population policy reform could be 4Q13 around the ruling party’s annual meeting or 1Q14 around the people’s congress meeting. We believe that the reform-minded president Xi and premier Li will use the opportunity of abolishing the one-child policy to build up their authority, show their determination in making changes and convince the Chinese people that they do have a roadmap for reforms.

The estimated impact: Around 9.5mn incremental babies

If the 21st Business Herald news is confirmed, the demographic reform path (which we called “piecemeal path” in our earlier report) is more conservative than our baseline “middle path”, which is defined as allowing all families to have two children without any restrictions. So is this a big disappointment? Not really. This is because the one child policy now is only strictly enforced in urban areas and some developed rural areas where most couples of child-bearing age have at least one singleton (note China’s one-child policy started in the late 1970s).

According to the 2005 population survey, singletons account for 29.3% of Chinese aged 30 or under (the generation affected by the one-child policy). The ratio should be significantly higher in urban areas. Assuming 60% of people of child bearing age in urban areas are singletons, on top of the 36% families which are already allowed to have two children, we estimate 48% of urban families of child bearing age could benefit from the coming reform. Using census data, there are 79mn women of child bearing age (23 to 42) this year. 48% of 79mn is 38mn. Assuming 25% of them choose to have a second child, about 9.5mn babies would be born as a result of this reform to one-child policy.

While we touched on the main demographic reason for this paradigm shift toward population control back in January with “China Hits Key Demographic Ceiling As Working-Age Population Now Declining“, here is much more on this topic from a previous take by Bank of America:

End of the one-child policy?

We think China’s rapidly worsening demographics entail significant risks to its long-term social stability and economic growth if Chinese policymakers do not terminate the country’s one-child policy. The one-child-policy is very unpopular, and in our view has been long outdated; it is only supported by some smaller interest groups. For China’s reform-minded new leaders who will take office in March this year, we believe abolishing the one-child-policy could provide them with a means to build up their authority, show their determination in making changes and convince the Chinese populous that they do have a roadmap for future structural reforms.

Why China may soon end the one-child policy

Three factors lead us to believe that China may soon terminate its unpopular one-child policy: (1) Statistics point to rapidly deteriorating demographics which could lead to severe social and economic consequences in the future; (2) consensus for doing away with the one-child policy is well built up; (3) China’s new leaders could take ending the one-child policy as an opportunity to show their strength in their first year in office without taking on major interest groups. But before discussing why the one-child policy may soon be ended, we briefly go through the history and the current status of China’s one-child policy.

The current status of China’s one-child policy

“In 30 years, the currently pressing issue of population growth may have been eased, and a different population policy can be adopted.” – About Controlling China’s Population Growth, An open letter to Party and Youth League members from the Central Committee of the Communist Party of China, 25 September 1980. That letter marked the official start of China’s one-child policy. More than 30 years have passed and in our view the one-child policy has been much more successful in slowing China’s population growth than most officials at the time had expected. The National Population and Family Planning Commission (henceforth NPFPC) was in charge of the enforcement of the one-child policy in the central government, while at local levels usually deputy governors take responsibility for enforcing it.

The NPFPC has gradually loosened up the one-child policy, especially in rural areas. Currently, a second child is permitted if both parents are singletons. The rule is looser for rural families, which (with some exceptions) can have a second child if the first-born is a girl. Some provinces have even looser policies for rural families. For instance, in Anhui province, a rural family can have two children if one parent is singleton. There are also other exceptions for a second child, and minority ethnic groups are allowed to have two or even more children. Families which have more children than the policy allows are subject to fines under the name of social maintenance fees. The fee amount varies across the nation, but usually is at least 2-6 times of the higher of annual family income and average local household disposable income.

Worsening demographics

China’s population growth is rapidly decelerating. It rose by 0.48% to 1,347.4mn in 2011, significantly slower than the pace of 0.76% in 2000 and 1.45% in 1990. The falling population growth is a result of both a fast decline in birth rate, which in turn is due to the one-child policy and rising income per capita, and a slowly climbing death rate on an aging population. The birth rate dropped to 1.19% in 2011 from 2.11% in 1990 and 1.40% in 2000, while the death rate rose to 0.71% in 2011 after bottoming out at 0.64% in 2003. China’s current birth rate is similar to those of developed countries (1.1% in 2005-2010) but much lower compared to other less developed countries (2.5%).

Based on the trend, we think China’s population will likely peak by 2020 at below 1.4bn (far lower than NPFPC’s projection of 1.5bn in 2033) and will likely decline sharply afterwards. The United Nation estimates that the Chinese population will likely peak at 1,358mn in 2017, and decline to 1,319mn in 2030 and 1,130mn in 2050, which are 2% and 16% contractions respectively from now, in its low variant case.

Why the NPFPC has a different estimate?

China’s existing population policy is based on the NPFPC’s projection of population growth, which estimates that China’s population will peak at 1.5bn in around 2033. The key assumption of the NPFPC is that China’s total fertility rate (TFR) has stayed at 1.8 over the past decades and will stay at that level for years ahead, though all evidence seems to suggest that China’s TFR has been much lower than 1.8 since the mid-1990s. In hindsight, NPFPC’s forecasts of population growth have been systematically overshooting the actual numbers by a significant margin. In 2001-05, the Chinese population increased by only 40.1mn, far below the NPFPC’s forecast of a 62.6mn increase. In 2006-10, the Chinese population added 33.8mn, again much lower than the NPFPC’s projection of 52.4mn. In our view, the NPFPC’s forecasts have a poor track record.

What is China’s true TFR?

TFR is perhaps the most controversial demographic indicator in China. It is the average number of children born to each woman over the course of her life. By international standard, a TFR of 2.1 is required to keep a stable population. In 2005-2010, TFR was 2.52 globally, 1.66 for developed countries and 3.03 for less developing countries excluding China, according to the UN.

What is TFR in China? The NPFPC claims that China’s TFR has been quite stable at around 1.8 over the past 20 years. It believes such a TFR is suitable for China and that China should stick to its existing population policy to control population growth. The 2010 census suggests that China’s TFR has dropped to a suprisingly low 1.18 in 2010, down further from 1.33 in 2005 and 1.22 in 2000. In the past the NPFPC has often claimed that census data significantly underestimates the true TFR as a lot of families with more than one child choose to under-report their actual number of children and the NPFPC has revised up its TFR estimate to 1.8 regardless of the census data.

However, a consensus has been reached that China’s TFR is likely to have been 1.4 to 1.5 over the past decade, falling from 2.3 in 1980 and 5.8 in 1950. This is much lower than many developed countries, such as the US (2.07), the UK (1.83) and France (1.97), but similar to some other countries struggling to deal with a low fertility rate, such as Japan (1.31), Korea (1.29) and Germany (1.36). In sum, China’s TFR has stayed significantly lower than the replacement level of 2.1 for more than two decades, and we believe it is likely to drop further as GDP per capita grows.

The aging population and worsening age structure

The Chinese population has been aging fast. Three decades ago, the Chinese population was young with a median age of 22.4. The median age in China is now 34.5, still less than Korea’s 37.9, Japan’s 44.7, the US’ 36.9, France’s 39.9 and the UK’s 39.8, but much higher than other less developed countries at 24.5. The trend of aging is set to continue. The UN suggests China’s median age will rise to 53.4 in 2050, similar to estimates for Japan at 52.3 and Korea at 51.8 and significantly above estimates for the US at 40.0, France at 42.7 and the UK at 42.9 and other less developed countries at 34.4. We note that China is still a developing country. Its GDP per capita based on purchasing power parity was US$7,553 in 2010, only 16-25% of that pf the developed countries mentioned above.

At the same time, China’s age structure is deteriorating. In 2011, 9.1% of Chinese were aged 65 or over, up from 7.0% in 2000 and 5.2% in 1980, while the percentage of young age (0 to 14) declined to 16.5% in 2011 from 22.9% in 2000 and 35.5% in 1980. The share of elderly could further rise to 17.4% in 2030 and 29.3% in 2050, while the share of young may decline to 10.8% in 2030 and 9.1% in 2050, the UN suggests.

The baby boom in early 1960s and the one-child policy from mid-1970s have significantly lowered the dependency ratio (those not of working age to those of the working age of 15-64) in the past three decades – from 62.6% in 1982 to 34.4% in 2011. For comparison, it is quite similar to Korea’s 36.8% but much lower than Japan’s 56.2%. A low dependency ratio has allowed China to save more and grow its capital base in the past. However, this ratio has likely already bottomed out and could start rising on aging population. It could rise to 39.2% in 2030 and 62.3% in 2050, according to the UN. The old-age dependency ratio  (age 65+/age 15-64) could rise to 24.2% in 2030 and 47.6% in 2050 from 11.3% in 2010 and 8.7% in 1980. This means that in 40 years time only two workers will support one retiree, vs nine workers supporting one now.

Such an unprecedented pace of aging poses big challenges to China’s pension system. Traditionally, Chinese families have largely relied on their children after their retirement. However, after a 30-year enforcement of the one-child policy, every only-child will need to support two parents and four grandparents, which is likely to be too much of a burden. The retirees will have to depend on the national pension system. China needs to quickly catch up its pension system coverage to ensure social security, as currently only about a third of the population is covered. Furthermore, how to finance the pension system remains a big question as China’s labor force shrinks.

New leaders’ best, safest and easiest reform in 2013

As we explained in detail in China’s post-leadership transition reforms (16 Nov 2012), major structural reforms are unlikely in China before 2014 as the new leadership, especially incoming president Xi and premier Li, will have a mandate of a whole decade. Messrs. Xi and Li will most likely take the first couple of years to consolidate their power base and make allies. In our view, for the two leaders to aggressively revamp China’s institutions, time is likely to be required in order to amass the power base necessary to take on the vested interest groups.

Strong support, little resistance

However, despite the focus on solidifying power bases and maintaining short-term growth stability, in our view the new leaders might still start some reforms in areas with the least resistance and the strongest support. For politicians, barriers to reforms could stem from conservatives clinging to old ideas and vested interest groups. As mentioned above, there is significant support from scholars and social elites for reforming the one-child policy, and the resistance might be only from those with vested interests.

We might be able to learn something from recent history. A decade ago when Messrs. Hu and Wen took office, they abolished all agricultural taxes which had existed in China for more than 2000 years. At that time, the amount of revenue from agricultural taxes had become almost irrelevant (only 2% of total national tax revenue), but Chinese farmers had been strongly against these taxes. This time around, we believe that fine-tuning the one-child policy, which was started in the mid-1970s, could be the major reform to be introduced by the new government with a window of late-2013 to 2014.

Opportunity for new leadership

In our view, China’s new leaders could use reform of the one-child policy as an opportunity to show leadership in their first year in office without taking on major interest groups. Messrs. Xi and Li have displayed a sincere intendance towards reforms and have promised to give the Chinese people a roadmap for what they will do in coming years. The best way to convince the Chinese people of their determination, in our view, would be to start with easier reforms that impart significant meaning. In this regard, we believe there are few other reforms better suited that could be enacted in 2013 (or in  early 2014).

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