Blog Post

Chinese growth: A balancing act

China’s GDP growth in 2018 was 6.6%, its lowest annual growth rate in more than two decades, and the rate is expected to slow further this year. What is driving the slow-down in Chinese growth and what are the implications for Chinese policymakers and the global economy? This post reviews the blogosphere’s take.

By: and Date: January 28, 2019 Topic: Global Economics & Governance

According to preliminary estimations of the National Bureau of Statistics of China, the country’s GDP grew 6.4% year-on-year in Q4 2018, the same rate as during the worst of the global recession (in Q1 2009, see Figure 1). For the whole of 2018, the growth rate was 6.6%, the lowest since 1990. And last week, the IMF published its updated World Economic Outlook (see Table 1), in which Chinese growth in 2019 and 2020 is projected to be even slower (6.2%).

Figure 1

Source: National Bureau of Statistics of China

Although there was no revision for China, the IMF cut its forecast for global growth, while Gita Gopinath, the IMF’s new chief economist, warns that “risks to more significant downward corrections are rising”, including the possibility that Chinese growth slows down faster than expected.

Table 1

Although there is a consensus among commentators that slower growth is hardly surprising, they also agree that there is more than meets the eye when it comes to Chinese growth.

The first concern is that the actual situation on the ground is worse than the GDP numbers let on. Michael Pettis at Carnegie Endowment for International Peace subscribes to this view. He argues that true growth may be as low as half of what is reported, but he puts forward three distinct reasons as to why there might be such a discrepancy.

The first two are not limited to, though remain particularly relevant for, China: GDP may be doing a poor job at capturing the creation of real economic value, or the reported numbers may not be accurate. But, Pettis argues, the third reason is far more worrying: GDP growth is an input to the Chinese economic system – as in, a target set at the central-government level well ahead of time – rather than the output. Then several actors, such as local governments, engage in the spending and borrowing required to achieve the target.

As long as this economic activity is productive, as Pettis claims was the case until a decade or so ago, it is a non-issue. Even if it is not productive, however, China can continue to hit any GDP targets it sets, provided that it doesn’t face hard budget constraints and avoids a write-off of the resulting bad debt. The difference is that GDP ceases to be informative about the economy’s health or performance. Pettis’ point is, therefore, that one should worry less about the reported growth numbers and more about the financial risks that have built up as a result of unproductive investment.   

Indeed, Colby Smith in FT Alphaville documents how, after the global financial crisis, China’s domestic leverage increased substantially (see Figure 2). The column notes that the rapid increase in debt fuelled an investment boom that supported, in the words of former premier Wen Jiabao, economic growth that is “unstable, unbalanced, uncoordinated and unsustainable”.

Figure 2

This highlights the chief concern about Chinese growth – namely,- that it is unbalanced, relying too much on investment and too little on consumption. With investment at 43% of GDP and private consumption at 38%, China is an outlier by global standards (the world average for consumption is 60% of GDP) and the progress it has made towards rebalancing since 2011 is small (see Figure 3). Citing the IMF, Smith points out that China’s per-capita GDP is comparable to Brazil’s, but its consumption per capita is analogous to Nigeria’s; if China were to consume like Brazil, its level of consumption would have to double.

Figure 3

Paul Krugman remarks that at such high investment levels, diminishing returns are bound to kick in. Although high investment rates can be sustained for a long time in a rapidly growing economy, the potential for future growth in China has diminished for two reasons: technology has converged to that of other advanced countries, and the working-age population has stopped growing. Yet, Krugman writes, Chinese policymakers seem to be doubling down on supporting investment, instead of rebalancing the economy towards higher domestic consumption, for instance by returning profits from state-owned enterprises to the public and strengthening the social safety net.

Why is that? Chinese policymakers face a trade-off, says George Magnus, former senior adviser to UBS and the author of ‘Red Flags: Why Xi’s China is in Jeopardy’ (per Colby Smith’s Alphaville piece). Decreasing the pace of credit growth to rebalance the economy renders the high-growth-rate objectives of Chinese officials harder to achieve. But Magnus says that, so far, Chinese economic policymakers have tried to meet both ends, thus working at cross-purposes and risking the failure of both aims. Put another way, infrastructure spending, liquidity injections in the financial system, cutting the reserve requirement, and asking banks to lend more to private and small companies all contradicts the calls to banks to raise more capital and keep an eye on their bad debts.

Conversely, in his Project Syndicate piece Yu Yongding does not walk the line and strongly advocates monetary and fiscal expansion. Macroeconomic stimulus may not address China’s long-term problems, he argues, but slower growth is the biggest risk China faces, endangering its economic, financial, and social stability. In Yongding’s view, with inflation running at only 2%, tightening monetary policy to achieve other objectives, such as managing the exchange rate or containing house-price increases, would do more harm than good.

On the issue of rising house prices, Yongding dismisses the view that they are caused by central-bank policy, but reverses that logic and advocates for fiscal instruments to address the matter. Noting that house prices have been on a rise that predates any monetary stimulus, Yongding believes that it is exactly the absorption of liquidity by the residential sector that creates the need for further injection in order to support the rest of the economy.

He also adds that China has the fiscal space, even after considering contingent liabilities such as local government debt, to reverse the slowdown in infrastructure investment, the basic driver of lower growth. To enhance the efficiency of infrastructure projects, Yongding argues for funding projects through the central government rather than leaving it up to borrowing by local governments.    

Rather than the short-term ramifications, Jim O’Neill considers the long-term implications of China’s rebalancing. O’Neill draws from Apple’s letter to its shareholders that cuts its Q1 2019 revenue forecast and cites the economic slowdown in China. His premise is that Chinese consumption has driven global growth during the past decade and it has become a major market for companies like Apple.

Between 2010 and 2017, consumption in China grew from $2.2 trillion to over $5 trillion, compared to $10.5 trillion and $13.5 trillion respectively in the US. Going forward, O’Neill argues, the growth of consumption in China will be absolutely essential. Assuming 8% average GDP growth and a gradual increase of domestic consumption to 50% of GDP from 2021 to 2030, he writes, by the end of this period Chinese consumption is projected to surpass American consumption.

O’Neill wonders what it would mean for the global economy if these assumptions do not come to pass, and concludes that no country, advanced or emerging, could fill the consumption void China would create. The US may be one exception, but O’Neill is sceptical about the ability of the US consumer to step up in light of vulnerabilities caused by inflation, higher borrowing costs and pressures on the US increase savings.

Like Krugman, O’Neill proposes more direct fiscal support but also the reform of the hukou (household registration) system. In his view, the economic security generated by such reform for migrant workers from the country’s rural areas, would enable this important part of China’s population to save less and consume more.

Perhaps the most striking statement made by O’Neill is that “a sustained decline in Chinese consumption would be even more worrying than the current US-China trade dispute”. This sense that a Chinese slowdown is imminent and its impact may prove devastating is echoed by the other pieces reviewed here. But as Krugman writes, “the other day I issued a warning about the Chinese economy… unfortunately, the other day was six years ago”. And given the abundance of policy recommendations, China still appears to have a number of options to deal with its growth problem.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.

Read article More on this topic More by this author
 

Opinion

The EU-China investment deal may be anachronic in a bifurcating world

Ultimately, only time will tell if this landmark trade agreement will be productive and counter the potential bifurcation of international value chains.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: April 6, 2021
Read article More on this topic More by this author
 

Opinion

站在時代岔路口的《中歐投資協定》

只有時間能證明這一具有里程碑意義的貿易協定是否具有成效,能否應對國際價值鏈的潛在分化。

By: Alicia García-Herrero Date: April 6, 2021
Read article More on this topic More by this author
 

Opinion

中國兩會的主要目標在於長遠經濟規劃

2021年相對較低的經濟目標實際上有助於保持2021和2022年增長的相對穩定。

By: Alicia García-Herrero Topic: Global Economics & Governance Date: March 12, 2021
Read article More on this topic More by this author
 

Opinion

Anchoring expectations as Two Sessions’ main objective

Interestingly, the growth target for 2021 is pretty humble: over 6 percent for 2021, while most forecasts hover between 7 and 10 percent.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: March 10, 2021
Read article More on this topic More by this author
 

Podcast

Podcast

Will China fall into the middle/high income trap?

The middle to high-income trap in East Asia and its China dilemma.

By: The Sound of Economics Topic: Global Economics & Governance Date: March 3, 2021
Read article More on this topic More by this author
 

Opinion

外國投資者可能會放緩在中國債券市場的步伐

總體而言,誘人的息差縮小和信貸風險的上升可能會削弱此前中國債券的優勢。儘管中國仍在推動債券市場多元化,但越來越多的中國企業被實施制裁對2021年來說並不是個好兆頭。

By: Alicia García-Herrero Topic: Global Economics & Governance Date: March 3, 2021
Read article More on this topic More by this author
 

Opinion

《中歐投資協定》意義幾何?

總體而言,與中國企業在歐盟的方便之門相比,歐盟期望獲得的更多市場准入還相去甚遠。

By: Alicia García-Herrero Topic: Global Economics & Governance Date: March 3, 2021
Read article Download PDF More on this topic
 

Policy Contribution

China’s state-owned enterprises and competitive neutrality

The concept of competitive neutrality can be used to assess how far a market is from being a competitive environment. In China, competitive neutrality is lacking, with state-owned firms favoured in most sectors, even over Chinese private firms.

By: Alicia García-Herrero and Gary Ng Topic: Global Economics & Governance Date: February 23, 2021
Read article Download PDF More on this topic
 

External Publication

China and the WTO: Why Multilateralism Still Matters

An examination of China’s participation in the World Trade Organization, the conflicts it has caused, and how WTO reforms could ease them.

By: Petros C. Mavroidis and André Sapir Topic: Global Economics & Governance Date: January 28, 2021
Read article More on this topic More by this author
 

Podcast

Podcast

A rushed deal or a rush to judgement?

The Comprehensive Agreement on Investment (CAI) is supposed to improve market access for European companies operating in China and to ensure a level playing field, as well as reciprocity. Does it fulfil such expectations?

By: The Sound of Economics Topic: Global Economics & Governance Date: January 27, 2021
Read article More on this topic More by this author
 

Opinion

中國企業受累貿戰和疫情,但仍優於全球同業

總體上,中國企業的表現半喜半憂:相對全球同業表現較好,但收入下降和槓桿率升高帶來的風險也不容忽視。

By: Alicia García-Herrero Topic: Global Economics & Governance Date: January 21, 2021
Read article More on this topic More by this author
 

Opinion

RCEP對亞洲影響積極,無阻價值鏈重組

總體而言,雖然RCEP成員之間在市場准入上實際提升幅度有限(例如中國和澳洲),但這一協定的意義在於讓世界意識到,亞洲仍然依賴中國市場,亞洲國家不能錯過中國放寬市場准入的機會,即使幅度有限。

By: Alicia García-Herrero Topic: Global Economics & Governance Date: January 21, 2021
Load more posts