Demystifying China’s Slowdown
A policeman patrols on the renovated Bund against the skyline of Lujiazui Financial District in Shanghai, China. (Getty Images)
July 23rd, 2012
05:49 PM ET

Demystifying China’s Slowdown

By Yukon Huang, Special to CNN

Editor’s note: Yukon Huang is a senior associate at the Carnegie Endowment for International Peace and a former World Bank country director for China. The views expressed are solely those of the author.

Markets responded negatively to the news that China’s second quarter growth had slipped to 7.6 percent, apparent confirmation that the world’s second largest economy is still slowing.

Yet, on the surface at least, such pessimism seems unwarranted. After all, no other major economy – developed or developing – is expected to come close to matching China’s performance this year, which should see it post growth of around 8 percent as its economy experiences something of a rebound in the second half of the year.

Moreover, the recent figures shouldn’t have come as a surprise as Beijing had already signaled as much as a year ago that the economy would likely be transitioning to a new “normal” of around 7 percent to 8 percent, from the near double digit rates of the past. Indeed, there’s little disagreement over the belief that China’s growth model needs to be retooled downwards to make it sustainable.

So why were markets so disappointed with numbers that only confirmed what should have been expected? And is something more alarming on its way?

The disappointment reflects how dependent the world has become on China driving the global economy given the protracted problems in the United States and Europe. In fact, in the depths of the 2008-10 financial crises, China accounted by some estimates for nearly half of the global increase in demand. And, through its trade links with other East Asian network partners, global demand for raw materials and surging overseas investments, China has propped up countries from Latin America to the Pacific Rim, while even cushioning some of the decline in the West.

For equity markets, however, near-term outcomes are what matters. A slower growing China is a severe headache when other BRIC nations (Brazil, Russia, India and China) are also faltering. Together with the vulnerabilities in the eurozone and budget stalemate in the United States, this is creating what some are calling a perfect storm.

But for China itself, slower growth can actually be a good thing if it’s part of the transition to a more sustainable path. As a maturing economy with reduced employment needs from a rapidly aging population, quality rather than quantity of growth is what now matters for Beijing.

Publicly, Chinese policy makers have indicated that the country is still on track for a “soft landing” and that no major stimulus effort comparable to the 2008/9 program is needed. That effort, which relied heavily on loans to fuel infrastructure development, was excessive in that it spawned a property bubble while leaving in its wake debt servicing problems for many localities.

Consequently, for much of last year, Beijing found itself tightening monetary policies and implementing draconian restrictions on housing purchases and local level infrastructure projects. But given the continued financial problems in the eurozone, Beijing last November reversed gears by easing monetary policy. More recently, it accelerated some major projects, although it hasn’t yet removed restrictions on housing purchases given the risks of fueling yet another property bubble.

Although there’s still considerable uncertainty about when exactly China’s downturn will bottom out, most indicators suggest that this is likely going to occur in the coming months. Last month’s credit figures showed a jump in medium and long-term loans, housing prices appear to be rebounding despite the restrictions, double digit wage increases have continued and personal consumption indicators remain strong.

Still, many of the skeptics on China’s economy have become increasingly vocal in forecasting a “hard landing.” Their dire predictions are backed up by examples of “ghost” cities – vast newly constructed complexes that are unoccupied – and iconic bridges to nowhere. All this is seen as eventually leading to loan defaults that will ultimately overwhelm China’s still fragile banking system.

But such views are alarmist. It’s true that there are isolated examples of waste, but overall, China remains a highly competitive economy with vast financial resources to keep it on track.

That said, Beijing has few policy options for dealing with the current slowdown, and efforts to encourage more personal consumption are unlikely to change behavior. In addition, given the excessive growth in investment in recent years, any artificial push for even more investment will simply create more problems further down the line. With already relatively low interest rates and limited flexibility for depreciating the renminbi given the political pressures to move in the other direction, the leadership can only make very modest adjustments to these two key variables to spur the economy.

As a result, rather than debating stimulus options, Beijing should consider moving more aggressively on reforms that would have an expansionary impact on the economy. Restructuring the budget to support more social expenditures, for example, would help push up consumption, especially since China spends far less in these areas than other developing countries. Also, facilitating more private sector activity by freeing up entry to areas dominated by state entities, as well as accelerating the urbanization process by liberalizing residency requirements in major cities, would also have an expansionary impact.

Reforms such as these would harmonize near-term stimulus needs with the longer term objective of moving to a more efficient and equitable growth path, something that is fully consistent with the Chinese government’s own intentions.

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Topics: China • Economy

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soundoff (24 Responses)
  1. Amato

    Today China is a country that believes in God; no more died hard communists or ignorant atheists. God bless China!

    July 23, 2012 at 6:17 pm | Reply
    • LT Fang

      Literacy in science and math, not religion, is the human capital that made China's recent advances possible.

      July 23, 2012 at 6:37 pm | Reply
      • Reply to LT Fang

        Science and Math, yes. But religion also. It was ALL 3. Literacy in Science and Math and also their unshakable belief in God.

        July 23, 2012 at 10:33 pm |
    • tkogrady

      Has there been a wholesale conversion of faith in China? I thought most Chinese were Buddhist . . . and he isn't a god. Are you really implying that China's 1 billion plus people now believe in the Judeo-Christian concept of God?

      July 25, 2012 at 11:27 am | Reply
      • Amato

        In the past, many are prosecuted and suffered immensely for being Christians. God never forget the Chinese and now is the time. It is relatively more relax now.
        Roughly estimate, today the Christians and Catholics in China are equivalent to 25 % to 30% of USA’s population. Many high ranking government officers also turn Christians because their children accept Christ while studying abroad. This had never happen in Chinese history.
        I have high hope for China because today Chinese have the humility to change. I pray that our young men and women in the West would take their faith more seriously.

        July 25, 2012 at 4:51 pm |
    • Azdrubal Mormoir

      China believes in one God! Chinese beliave in the God of Money, like Mirr Romeny believes in the God of Money and the Good of Greed.
      Yo Christians are the ignorant. You believe in the old tales of an Old testaments written by Israelite slaves in the 6th century BC. The believers of the New Testament are hardly more educated than people in Ancient Greece believing in their gods mythology. Go get an education and start using your brain, please..

      July 26, 2012 at 5:41 pm | Reply
  2. Fenqing basher

    The article written by a proud Chinese. Clear that he is overseeing alarming signs of empty real estate, shady craftsmanship food poisoning, fake products and so on. Fact is Chinas labor cost is on the rise, it is already more expensive to manufacture certain goods in china then in western countries due to inefficiency and waste. Innovation is practically non existing in China. China is going down.

    July 23, 2012 at 8:20 pm | Reply
    • Peter

      China also beginning to robotize their industry to bring down cost

      July 24, 2012 at 12:54 am | Reply
    • Shane

      The company I work for looked into manufacturing in China and came to the same conclusion. It wasn't worth it. The overall cost difference was minimal (slightly cheaper from China) but the level of quality was night and day, so they did the smart thing.

      July 26, 2012 at 11:41 pm | Reply
    • Crabby327

      I don't know too much about other fields, but I know that in computers at least America sucks and is way behind Asia (other than Apple, God bless Apple). HP's been releasing the same design in their computers since 2010 and Dell, well just sucks. 3 of the top computer companies in the world are from Asia, with HP and Dell only there from selling underdeveloped crap. Frankly, the only good that comes out of America these days has a fruit on it.

      July 27, 2012 at 2:44 pm | Reply
  3. Wren Lockwood

    I work in the Global Markets and have engaged or financed many trade deals between China & Western partners for almost four decades now. And even going as far back as my university years doing research on China and as a young DCM analyst for a Global investment firm, Western analysts, commentators, pundits, strategists and policymakers have been engaging in "alarmist" conclusions about China all to no avail, and even as China continued to post double-digit growth figures for the last three-plus decades. Plainly stated, it's a form of Western xenophobia over our fears of a rising China displacing Western economic hegemony.

    July 23, 2012 at 9:01 pm | Reply
    • Fenqing basher

      Lol yes, 30 Years, and during those 30 years there were crises in china or not? western economic hegonomy??? what a lame statement, name one item china manufactures not originating from the western industry, ohh you got me here, paper and silk.... hmmmmm

      July 23, 2012 at 11:55 pm | Reply
  4. j. von hettlingen

    One of the strenght of China's economy is that the Chinese personal savings rates are high. The virtue of saving for the rainy days does explain the low household debt in China. For the central government it's a relief, as it doesn't have to worry about social expenditures. Yet not everybody has been able to squirrel away a few yuans at the end of the month. As the wealth gap gets wider, the social grievances among the have-nots could be a time-bomb in the long-term.

    July 24, 2012 at 3:22 am | Reply
    • Peter

      Yes but all the savings are deposited in state-owned banks, which have been lending money to developers for projects that will NEVER return a profit. In any other country, the debts would be written down and investors would have to face that reality. China just keeps on pretending that the debts will be repaid. At some point in the very near future hundreds of millions of Chinese citizens are going to retire and they're going to go to the bank to get their money... that no longer exists.

      July 24, 2012 at 7:58 am | Reply
      • Sowhat????

        I think you're mixing up countries, haven't the American and European banks already done that? And let me guess, you're wishing that it happened in China to???

        July 24, 2012 at 11:28 am |
  5. Peter

    This whole article is based on the flawed premise that China's own unvetted economic data can be trusted. Trusting China's data is like trusting Bernie Madoff's data.

    July 24, 2012 at 7:53 am | Reply
  6. Informed

    That is not a policeman in the picture–since when do Chinese police not wear uniforms and when did they start carrying brick-laying equipment? You should change the caption.

    July 24, 2012 at 11:27 am | Reply
  7. William

    Interesting, he says that worries of a crisis are "alarmist'. Read this article from MSNBC for another viewpoint...pretty scary.

    http://www.msnbc.msn.com/id/47561828/ns/business-us_business/#.T7-EolJvDKc

    July 25, 2012 at 11:51 am | Reply
  8. Krandal

    I've always felt Chinese people were slow.

    July 25, 2012 at 12:56 pm | Reply
  9. Pierce

    are u sure it's a policeman in the photo?

    July 25, 2012 at 1:38 pm | Reply
  10. Solo

    The U.S. is deeply in debt (and always will be) to China – that's not a "slowdown" on any level. When you look at our entire economic status, we're encouraging our own demise – China acts far differently, because it refuses to allow their population to increase without accountability – they quietly refuse to reward those who cannot pay their own way. Just think if the U.S did the same – think of all of the added income for honest, decent taxpayers. I personally would love not having to work nearly half a year just to pay for deadbeats.

    July 26, 2012 at 8:25 pm | Reply
  11. eMpTy

    Yeah...doesn't look like a Policeman to me... looks like a construction worker with roofing/tar tools in his hands.

    July 26, 2012 at 9:12 pm | Reply
  12. Gregory Faith

    Alright people we need to step up our buying of Chinese goods to keep them working! Get out to every Wal Mart and buy buy buy. WE can spend our way out of this recession and help the Chinese too. Get out there and spend!!

    July 27, 2012 at 10:50 am | Reply
  13. The Mad Hedge Fund Trader

    One of the great things about running a website with a truly global reach is that readers send me material which is nothing less than outrageous. So I had to laugh when I found in my inbox an animation of two bears discussing the hopelessly idiotic approach the US government has taken towards its trade with China over the past two decades.

    America gave away 25 million jobs, got nothing in return, with the end result that our standard of living is falling, while China’s is rising. The Chinese made this easy by devaluing their currency 50%, thus giving their exporters an unassailable price advantage. This has enabled the Middle Kingdom to buy an increasingly larger part of the US every year at knock down prices.

    The US could address this imbalance at anytime through the imposition of punitive import duties and forcing a revaluation of the Chinese Yuan. But any attempts to do so are fought off by well-financed libertarian pro business elements spouting the principals of free trade. So China laughs all the way to the bank, and the unemployment rate here ratchets ever skyward.

    The Mad Hedge Fund Trader

    August 14, 2012 at 11:18 pm | Reply

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