Amid the din of presidential change in the world’s established superpower, a looming leadership transition in its emerging superpower has gone little noticed. The Communist Party of China (CPC) will hold its five-yearly national congress in late 2017, marking the end of President Xi Jinping’s first term in power and almost certainly the start of his second. Since many people think Xi is the only person who matters in China these days, the broader transition beneath him may not seem a big deal, but he isn’t, and it is.

Choices ahead of the congress will not only decide the composition of top party leadership bodies to 2022, but also heavily influence developments beyond. As China’s rise enters its most testing period in a quarter century, the coming year is potentially pivotal, but will be highly opaque. The US presidential campaign was like a reality TV marathon, exposing the most controversial details of candidates’ lives and policies, and the divisions in their parties and society. China’s pre-congress season has begun, but its intra-elite competition and controversy will be largely hidden, its outcomes unpredictable until announced, and candidates’ positions and personalities obscure even then.

Xi the man

Despite being perhaps the most analysed world leader of 2013-16, obscurity also surrounds Xi and the leadership system he presides over. This is an ‘unrecognised unknown’, because a more straightforward narrative on Xi is increasingly accepted: that he has accumulated personal power through an anti-corruption campaign rooting out rivals, and by moving decision-making from the State Council (the central government led by Premier Li Keqiang) to party bodies that he leads himself. He thus rules, the story goes, as an autocrat not seen since Mao Zedong, pushing his own personal ‘China dream’ vision.

This narrative is a major simplification. Xi’s ability to shake things up so soon after taking power in 2012 could not have sprung from his small factional base or some overnight personal authority. It required a degree of elite consensus on the need to rejuvenate top-down authority and party discipline, to avoid a repeat of 2012’s extraordinary political upheaval and bolster the central leadership’s ability to govern. This mandate also facilitated the unprecedented corruption crackdown. Clearly, Xi has taken full advantage to consolidate power much faster and further than his predecessor, Hu Jintao (2002-12), but this should not obscure fundamental, unanswered questions with huge implications for China’s future:

  • Is Xi still operating to some extent based on a mandate and within the constraints, albeit diminished, of the CPC’s vaunted ‘collective leadership’? Or has the 2012 mandate created a true autocrat beyond wider leadership control and acting unilaterally? Assuming he has at least partly broken out of collective leadership constraints, how far will Xi push his dominance? Will it be seriously contested and will that be destabilising?
  • If Xi is so powerful, why has his 2013 economic reform agenda stalled? Does it reflect his limited support for difficult restructuring or his limited ability to implement it? What does it mean for economic prospects as China enters a more difficult and uncertain era of its development – one where growth is slowing and must be driven less by sheer mobilisation of resources, and more by their efficient use (a task to which China’s political-economy may be less suited)?

It is premature to draw conclusions on ‘Xi’s China’ less than halfway into his tenure, but so far the signs are worrying. Politically, China’s formula for effective, stable governance is under pressure while, for all the strongman hype, Xi has not moved China off the economic course it was on when he took office – one that history suggests leads sooner or later to severe economic difficulties.

There remains an optimistic scenario: after using his first term to consolidate control and put his conservative political credentials beyond question, Xi will use his second to force through painful but necessary reforms – more like Zhu Rongji than Mao Zedong. This is still credible, but recent history and current circumstances suggest lengthening odds on a successful economic remodelling like those executed by Zhu and Deng Xiaoping.

The house that Deng built

Many factors explain why the CPC has broadly proved effective and resilient, unlike many other authoritarian regimes in rapidly developing countries. For example, the party enjoys more legitimacy than outsiders tend to assume, and the interests of some key groups – such as the military, economic elites and in many ways the urban middle class – remain tied to the prevailing order. The state has built a surveillance and security apparatus worthy of a George Orwell and George Lucas collaboration, and the CPC faces no credible opposition from without as long as it avoids fracture within. However, some pillars of CPC resilience, and particularly its effective economic management, look less solid than before:

  1. Lenin’s heel

Leadership succession has always been seen as the Achilles heel of Leninist political organisations – not least by CPC scholars, who endlessly study the Soviet Union’s demise. For 25 years, the party has avoided succession crises and splits, with deliberate measures bequeathed by Deng. These are not rigid or institutionalised, but generally the Party has observed age limits; successors to the roles now held by Xi and Li have been unofficially anointed at least five years in advance; and, while selection processes remain opaque, no leader has been able to unilaterally fill the top organs of power with their favourites.

Heated debate has thus surrounded aspects of Xi’s first-term consolidation of power, and how it may continue: will Xi seek an unprecedented third term beyond 2022, and will key figures like anti-corruption supremo Wang Qishan stay beyond 2017? There is a tendency to over-interpret the minutiae of CPC politics, and specific departures from previous practices would not necessarily imply a dramatic power grab. The most likely scenario for 2017 is a stable transition that leaves Xi dominant but still operating within some degree of consensus and factional balance. Nonetheless, there is real uncertainty in elite politics today and – as 2012 showed – the risk of upheaval can no longer be dismissed as a topic for conspiracy theorists.

Xi’s influence was evident in several appointments to provincial and ministerial posts in 2016; 2017 will see the promotion of leaders such as Li Zhanshu and Zhao Leji emerging as ‘the president’s men’ at the centre. It would not be very surprising to see one or two exceptions made regarding age limits, with Wang the most obvious case (an exception was made previously for central bank chief Zhou Xiaochuan). However, we will be watching several areas for signs of more serious erosion of Deng’s heel-guards:

  • The idea of CPC politics as a contest among clearly defined factions is a myth. Only a minority of senior officials are clear protégés of a patron such as Xi or Hu. But if Xi handpicks large numbers of Politburo and Politburo Standing Committee (PSC) members from outside the pool who meet the typical criteria, or with clear under-representation of those close to Hu, it would seem a very significant departure.
  • Another practice begun under Deng was designating successors in advance, by appointing them to the PSC long before their elevation to the top jobs. This would suggest one or two younger, ‘sixth generation’ leaders will join the PSC in 2017. If not, or if Xi clearly picks a confidant over more obvious candidates, that too would seem a departure from succession-stabilising norms.
  • Despite popular perceptions, the corruption crackdown that removed thousands of officials in 2013-16 was not a purge of Xi’s factional rivals, apart from a few key groups involved in the 2012 sagas. However, the campaign has no doubt yielded plenty of intelligence. Escalation to target senior leaders, particularly close to Hu, would suggest intensifying intra-elite frictions.
  1. Ideology kills cats

While succession competition is probably still a longer-term concern, a more immediate one is that China’s impressive capacity for pragmatic, agile economic policymaking may be under threat. Every CPC leader has dealt in ideology, but Deng subordinated ideology to pragmatism, expressed in his famous phrase ‘it doesn’t matter if the cat is black or white, as long as it catches mice’. In practice this principle held under his successors Jiang Zemin and Hu, whose signature ‘theories’ were awkward attempts to bridge the gap between socialist orthodoxy and the socioeconomic realities of market reform.

The Hu leadership re-emphasised egalitarian values amid rising inequality during some very capitalist-looking boom years, but Deng’s principle remained. The primacy of pragmatism over politics, combined with a record of sound economic management and a capacity for major, painful restructuring at key junctures in its development, have been another crucial pillar of China’s success and resilience.

Under Xi, ideology is back. This is not to suggest he hankers for pre-reform economics – on the contrary he was a driving force behind an official agenda that promises a greater role for the market. Nor is his focus on political control and party discipline necessarily incompatible with that agenda (as in the optimistic scenario noted above). But there is a tension here, and signs of politics trumping pragmatism. Myriad anecdotes depict officials more worried about political correctness than policy effectiveness. There is confusion inside and outside the system about who is in charge on various economic issues.

Even after four years running the world’s second-largest economy, Xi’s real priorities and intentions remain uncertain – perhaps even to him. Some evidence suggests he supports major reforms such as tackling industrial overcapacity, and is frustrated by obstructive vested interests. Other signs suggest his political instincts favour short-term stability and state-centric approaches (such as interventionist industrial policy to boost big local firms), which may clash with longer-term, more market-driven goals.

China successfully negotiated several previous major tests in its post-Mao development thanks partly to the competence and adaptability of its policymakers, and their ability to implement big, unpopular reforms when required to avert looming threats to long-term growth. If key pillars of resilience show clearer signs of erosion, it would raise serious doubts about China’s chances of passing this latest test.

Einstein on insanity

Predicting the timing of economic or political upheaval has always been extremely difficult. From Japan’s crash and the 1997-98 Asian crisis to the 2007-08 financial crisis, and from the Soviet Union’s demise to the Arab spring, the warning signs were seen long in advance, and the crises looked inevitable with hindsight, but almost nobody predicted how or when they would unfold.

By the time Japan’s bubble burst at the end of the 1980s, people had spent whole careers explaining the country’s success, and seen previous warnings of systemic flaws and looming trouble proven premature (not unlike the situation among China-watchers today). This desensitised people to risks that had been rising for years, or made it intellectually unfashionable to emphasize them. Major problems were foreseeable if the course continued, but were discounted because the timing, specific triggers and tipping point were not foreseeable. Despite that experience, similar cognitive traps were evident in the conventional wisdom on other East Asian ‘miracle economies’ before their crises.

It is hard to see any such dramatic episode occurring soon in China. Economically there is still huge growth potential to tap, and some measures suggest ‘rebalancing’ is underway to more consumption-driven (and sustainable) growth. Financially, the central government’s fiscal position remains strong. China has also avoided some vulnerabilities that contributed to its neighbours’ past woes, such as heavy exposure to foreign borrowing. And yet, powerful basic trends still indicate trouble ahead:

  • The state has been allocating capital for many years on a vast scale in the context of very limited transparency and market discipline. It continues to support growth with credit to uncommercial enterprises (corporate debt recently reached about 180% of GDP), and initiatives like debt-equity swaps and mixed ownership reform look like the same practice in shiny new forms. The government also continues to support property markets that still look bubbly in most tier-1 and tier-2 cities.
  • A key reason for optimism has been the central government’s fiscal strength and extremely rapid economic growth, which offset concern about growing debt levels and moderated the rise of debt-to-GDP ratios. This is less reassuring with growth nearer 6% than 10% (and far lower in the sectors with the worst debt issues), and with demographics trends moving from huge growth-driver to huge fiscal headache in the next decade as the working-age population declines relative to retired people.

Such trends have repeatedly derailed fast-rising economies, so why expect different outcomes in China? As Einstein observed, insanity is doing the same thing again and again, and expecting different results. The above are just two examples of worrying economic trends. They are hotly debated and potentially manageable, but the policy challenge looks daunting and will require China’s leadership to be at its most effective. It is therefore the combination of political and economic clouds that darkens the horizon.

Battling against history

The leadership transitions in the US and China show their political systems as polar opposites, but they may also have something in common in 2017: expressions of existential angst about political economies under pressure from the rapidly changing conditions and challenges they face. Yet, while aspects of the US campaign season may have left some Chinese feeling thankful they don’t live in a democracy, the challenges facing the two systems are still fundamentally different.

The point here is not to write off the chances of China’s leadership pulling off another successful course-change, much less to advocate one system over another. But whatever one’s views, and however great the flaws exposed of late in the ‘Western liberal-democratic model’, China’s remains a less tried and tested institutional formula. One could claim much longer precedent in China’s case: for large periods of pre-20th-century history it thrived under long-lived imperial dynasties featuring a strong state and weak societies. But to apply this to the CPC in the 21st century seems quite a stretch.

Leaders in Beijing have sought for years to engineer a system with the best of both worlds: the benefits of market competition, rule of law, accountability and institutional checks and balances, but without giving up strong state control and a CPC monopoly on political power. If anyone were to be the first to achieve such an historic feat of alchemy it might be China, but the possibility looks remote for now. The more pressing question is how well blending state capitalism with market economics will work going forward, as growth increasingly requires efficiency and innovation more than capital mobilization.

Stuck in the middle (kingdom)

Raising fundamental questions like those addressed here is often misread as forecasting ‘collapse’, and dismissed by citing the ‘pillars’ of China’s success. Our own analysis and assumptions have long rested partly on these same factors. We stayed sanguine through several periods when dire forecasts were fashionable, and expect continued economic and political stability for 2017. But anyone with a stake in China’s prospects has to be thinking beyond just whether or not a huge crisis or collapse is imminent – there are many less extreme negative scenarios that could still have major implications.

For foreign businesses and investors in China, these issues can sound rather abstract or premature, but should figure in a serious reassessment of long-standing assumptions about this crucial market, alongside several more immediate and practical challenges (such as, responding to shifting domestic industrial policy, regulatory and competitive landscapes). At the macro level an even trickier geopolitical climate was in prospect even before the US election, and multinationals must be more attuned than ever to the risk of being caught in the middle of bilateral diplomatic and trade disputes.

And yet, for most companies China still is worth the trouble. For all the big long-term questions and daunting current challenges, foreign companies’ growth, profits and expectations remain quite strong relative to many countries. Hence for businesses, as for China’s own leaders, challenges are mounting but still very far from insurmountable; succeeding in this new era will depend on recognising it early, taking it very seriously and adapting to it effectively.