Editor's Note: Stephen S. Roach, a member of the faculty at Yale University, is Non-Executive Chairman of Morgan Stanley Asia and the author of The Next Asia.
By Stephen S. Roach, Project Syndicate
Today, fears are growing that China and India are about to be the next victims of the ongoing global economic carnage. This would have enormous consequences. Asia’s developing and newly industrialized economies grew at an 8.5% average annual rate over 2010-11 – nearly triple the 3% growth elsewhere in the world. If China and India are next to fall, Asia would be at risk, and it would be hard to avoid a global recession.
In one important sense, these concerns are understandable: both economies depend heavily on the broader global climate. China is sensitive to downside risks to external demand – more relevant than ever since crisis-torn Europe and the United States collectively accounted for 38% of total exports in 2010. But India, with its large current-account deficit and external funding needs, is more exposed to tough conditions in global financial markets.
Yet fears of hard landings for both economies are overblown, especially regarding China. Yes, China is paying a price for aggressive economic stimulus undertaken in the depths of the subprime crisis. The banking system funded the bulk of the additional spending, and thus is exposed to any deterioration in credit quality that may have arisen from such efforts. There are also concerns about frothy property markets and mounting inflation.
While none of these problems should be minimized, they are unlikely to trigger a hard landing. Long fixated on stability, Chinese policymakers have been quick to take preemptive action.
That is particularly evident in Chinese officials’ successful campaign against inflation. Administrative measures in the agricultural sector, aimed at alleviating supply bottlenecks for pork, cooking oil, fresh vegetables, and fertilizer, have pushed food-price inflation lower. This is the main reason why the headline consumer inflation rate receded from 6.5% in July 2011 to 4.2% in November.
Meanwhile, the People’s Bank of China, which hiked benchmark one-year lending rates five times in the 12 months ending this October, to 6.5%, now has plenty of scope for monetary easing should economic conditions deteriorate. The same is true with mandatory reserves in the banking sector, where the government has already pruned 50 basis points off the record 21.5% required-reserve ratio. Relatively small fiscal deficits – only around 2% of GDP in 2010 – leave China with an added dimension of policy flexibility should circumstances dictate.
Nor has China been passive with respect to mounting speculative excesses in residential property. In April 2010, it implemented tough new regulations, raising down-payments from 20% to 30% for a first home, to 50% for a second residence, and to 100% for purchases of three or more units. This strategy appears to be working. In November, house prices declined in 49 of the 70 cities that China monitors monthly.
Moreover, it is a serious exaggeration to claim, as many do today, that the Chinese economy is one massive real-estate bubble. Yes, total fixed investment is approaching an unprecedented 50% of GDP, but residential and nonresidential real estate, combined, accounts for only 15-20% of that – no more than 10% of the overall economy. In terms of floor space, residential construction accounts for half of China’s real-estate investment. Identifying the share of residential real estate that goes to private developers in the dozen or so first-tier cities (which account for most of the Chinese property market’s fizz) suggests that less than 1% of GDP would be at risk in the event of a housing-market collapse – not exactly a recipe for a hard landing.
As for Chinese banks, the main problem appears to be exposure to ballooning local-government debt, which, according to the government, totaled $1.7 trillion (roughly 30% of GDP) at the end of 2010. Approximately half of this debt was on their books prior to the crisis.
Some of the new debt that resulted from the stimulus could well end up being impaired, but ongoing urbanization – around 15-20 million people per year move to cities – provides enormous support on the demand side for investment in infrastructure development and residential and commercial construction. That tempers the risks to credit quality and, along with relatively low loan-to-deposit ratios of around 65%, should cushion the Chinese banking system.
India is more problematic. As the only economy in Asia with a current-account deficit, its external funding problems can hardly be taken lightly. Like China, India’s economic-growth momentum is ebbing. But unlike China, the downshift is more pronounced – GDP growth fell through the 7% threshold in the third calendar-year quarter of 2011, and annual industrial output actually fell by 5.1% in October.
But the real problem is that, in contrast to China, Indian authorities have far less policy leeway. For starters, the rupee is in near free-fall. That means that the Reserve Bank of India – which has hiked its benchmark policy rate 13 times since the start of 2010 to deal with a still-serious inflation problem – can ill afford to ease monetary policy. Moreover, an outsize consolidated government budget deficit of around 9% of GDP limits India’s fiscal-policy discretion.
While China is in better shape than India, neither economy is likely to implode on its own. It would take another shock to trigger a hard landing in Asia.
One obvious possibility today would be a disruptive breakup of the European Monetary Union. In that case, both China and India, like most of the world’s economies, could find themselves in serious difficulty – with an outright contraction of Chinese exports, as in late 2008 and early 2009, and heightened external funding pressures for India.
While I remain a euro-skeptic, I believe that the political will to advance European integration will prevail. Consequently, I attach a low probability to the currency union’s disintegration. Barring such a worst-case outcome for Europe, the odds of a hard landing in either India or China should remain low.
Seduced by the political economy of false prosperity, the West has squandered its might. Driven by strategy and stability, Asia has built on its newfound strength. But now it must reinvent itself. Japanese-like stagnation in the developed world is challenging externally dependent Asia to shift its focus to internal demand. Downside pressures currently squeezing China and India underscore that challenge. Asia’s defining moment could be hand.
The views expressed in this article are solely those of Stephen Roach.
It is good macro analysis of the economies of the two countries. But Stephen Roach's analysis has failed to acknowledge that unlike China's economy, the Indian economy is less dependent on exports and is far more reliant on domestic-largest middle class consumer market in the world. While China is miles ahead of India in many aspects such as infrastructure, India too has advantage in many cases. India has much larger pool of younger generation to provide the demand, growth and human resources unlike China where population is aging and everything is state run and owned. It is difficult to compare the two Asian giants as they function under totally opposite regimes.
That India has the world's largest middle class consumer market got to be the biggest joke of the century – both India's so-called middle-class by international standard and its consumer market are tiny, compared with China's. Millions of hungry, undernourished. illiterate and unemployed are not the kind of "demographic dividend" that will propel India into the economic power it desires to become.
What is this ? Chinese jealousy ? I know China and it's abject poor, like India. The Indian middle-class is indeed growing much faster. China will be overtaken but India but what really matters is that, today, the world respects and admires India while abhorring everything Chinese !
I agree Brau. I've said for years that India will be the next great world power, not China.
India has a lower income per capita than China. The Chinese work harder and save more. China has no current-account deficit, yet the Chinese know they can't go on producing low-end products forever. Both countries see an ongoing urbanisation. It looks as if China invests more in improving housing and public transport, which explained the debts of the local governments. India on the contrary practises a laissez-faire policy and leaves its regional authorities to their devices. Public goods and infrastructure leave much to be desired.
India is the fast growth economy and just take over China this year. The growth rate is more than 10% and will keep double dight growth rate in next 20 year. All of current publish is misprint.
yeah, and pigs fly too
india got 10% growth? what is ur source, plain lie
Finally, another balanced article ^.^
Even cow cow live longer in india this is testament of superior india government
I can't say I've ever had one. Strawberries and bannaas are enough for me. But if India wants our wheat for some mangoes, more power! Are there any domestic mango growers?
The world loves India and despises, contempts everything Chinese, from melamine-laced milk to the Tibetan genocide. From msg-foods to the Tianamen massacre. India is FREE, China indulges in self-adoration of its own slavery ! Excuse-me while I puke, ughhh !
I agree with most comments. China is growing faster than India, has a surplus, better infrastructure...seems miles ahead of India. However, one strength that India has is its democracy, and the freedom it provides to its people. The social aspects of this comparison cannot be ignored. Whoeever made a comment about India's middle class being impoverished does should check their facts. India's economy will grow based on internal demand and is likely to be less affected by what happens in Europe. These are two different countries on two very different paths.
I'd just like to point out that the post does not montien dictators, your first comment opened up that topic.
One idea being batted around D.C. and other places is a scaled tariff. Considering that this is starting to take hold with a number of representatives and senators, it is increasingly likely that it will happen. The tariff would be based on how far out of whack a trade deficit. If this happens, then China will see a 38% tariff against ALL of their items sold in the USA. Interestingly, WTO allows for this once your trade is off by more than 10%. India would see about 22% tariff, so, it would be easier for them to lose about 11% of the USA trade, while China will have to lose 28% of their trade. Big hit.
We want to care ? Why. Both countries are attempting to become the big boy on the block, that means expanded military and both countries breed like rabbits on Viagra and ruffiess. The world doesn't need more military- US needs to cut back as well- and certianly doesn't need more people of any type. We are destroying our selves with our economies and mass populations. LEt's find a better way or this will all collapse and the "poor" Chinese and Indian peasants will be envied for their ability to survive on little or nothing.
I have spent a lot of time in China and can tell you that the Chinese are absolutely no threat to US, militarily or otherwise. NASA should be collaborating with the Chinese and Germans to establish a permanent moon base, a manned trip to Mars and a space station large enough to build deep space vehicles together.
Screw India and Pakistan, their caste system and their stone age tribal crap. Let them Nuke each other and save our warheads for the Taliban, etc that are sheltered by Pakistan anyway
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