Ken DaviesOECD Observer May 31, 2013
Will China’s growth slowdown last and what does it mean for the rest of us?
The gradual US recovery is still not strong enough to pull up the rest of the world economy. Abenomics has not yet worked its magic in Japan, if it ever will. And Europe is clearly out for the count. So can China be the new engine of the world economy?
Both leading and lagging indicators in China suggest that growth is continuing to slow. The HSBC PMI (purchasing manager index) fell to 50.5 in April, showing that industry’s optimists now have the slightest margin over pessimists, portending a further possible slowdown in output. A sub-index measuring new export orders fell at the same time to 48.6, reflecting poor demand in OECD countries.
Chinese GDP needs to grow by around 8.5% a year to employ school and college leavers, according to OECD calculations. The government’s top priority is always “social stability”, which also means political stability, which is–rightly–felt to be threatened if living standards drop, by income reductions, rapid inflation and/or high unemployment. So maintaining relatively high GDP growth is a paramount macroeconomic objective and policymakers get edgy when it threatens to dip below this rate, the low point of the business cycle that has characterised the Chinese economy since economic reforms were initiated in 1978.
However, the Chinese authorities are constrained in their ability to boost the economy. In 2008-2009 they pumped in CNY4 trillion (about US$600 billion) through a fiscal stimulus programme to counter the effects of the global economic crisis. This exacerbated existing overinvestment and overheating, while also pushing up bad debts. Since then, there have been strenuous efforts to restrain inflation and prevent the property bubble from getting so big that it bursts. In September 2012 another CNY1 trillion was promised in the form of infrastructure projects to keep growth going.
At the same time, the government is trying to rebalance the economy away from high investment in labour-intensive export manufacturing and towards greater private consumption, a larger services sector and more high-tech manufacturing–a policy which is set back each time a new stimulus programme is adopted that boosts fixed capital expenditure as a proportion of GDP.
While there is a risk that growth will dip below recently experienced rates, don’t expect it to result in the “lost decades” that Japan has experienced, at least not yet.
Japan’s growth rates of up to 12% a year in the 1960s were not sustainable because Japan was already a relatively developed country and did not have the massive hinterland to expand into that China has. As the OECD’s China surveys have shown, urbanisation alone will keep growth high over at least the next decade, provided there is no financial collapse.
Also, expect the Chinese authorities to continue economic (though not political) reforms already initiated to enable some necessary economic restructuring, though this will continue to be a gradual, not an overnight, process. One example of this is the internationalisation of the Chinese currency, which has made great strides but still has further to go.
The rest of the world will encourage such reforms in China because we all need Asia’s largest economy to remain healthy, buy our products and, increasingly, provide employment-generating investment.
As the world’s factory, China is a huge exporter, but it is also a major importer. In 2012, China accounted for 17.4% of US merchandise exports. In the same year in Japan, worries of a slowdown in trade with China were voiced, when its share fell below 20% of Japan’s total trade for the first time since 2009 (although this was in part due to a boycott of Japanese products by some importers resulting from a dispute). For Europe, exports to China have been among the fastest-growing, though they are still not as high a proportion of total trade as in the US and Japan.
China has itself suffered since 2008 from the fall in global demand for its exports and also from the plunge in world foreign direct investment (FDI) flows. The continuing weakness of Europe, its largest single export destination, is a source of some worry.
China is also an increasingly important source of investment capital. In 2012, nonfinancial outward direct investment from China reached US$77.2 billion, and the government plan is for it to reach US$150 billion in 2015. Much of this is from large state-owned enterprises with cash reserves. If domestic growth falls far, outward investment could slow as enterprises are forced to focus on demand-boosting projects at home.
While China will continue to expand as a market for OECD and emerging market exports and also as a source of capital to both in the next few years, prospects are less certain once the population hits a rapid ageing problem between 2020 and 2030 as a result of its one-child policy, which is costly demographically and economically, and morally questionable.
As pointed out in this year’s report by the US Federal Reserve, labour force expansion in China will then hit a plateau. Output will grow thereafter only if productivity rises. Taking up slack in the education system will produce a better-trained work force, but there will also need to be major institutional reforms, for example in the field of intellectual property rights, to encourage innovation and enterprise.
An important feature of economic restructuring is the enacting of measures to benefit the less well-off, including the ending of the outdated household registration (hukou) system and the granting of housing, health care and education benefits to migrant workers. The millions of men from the villages who build the skyscrapers and (mostly) women who go to work in the factories in coastal cities to make China’s exports should no longer be treated as second-class citizens. They are the ones whose achievements should be celebrated and rewarded.
As well as raising labour productivity through education, this will also redistribute rises in income towards those with a higher propensity to consume, which will help increase the share of domestic consumption in national income. This rebalancing would be welcome not just for China, but for the world economy.
And the efforts to protect the environment and increase recycling promoted by recent governments need to be stepped up so that Green GDP, which is what should be measured, can also grow.
Many of these reforms have been offered to China by the OECD as policy options that would help generate a positive outlook. But they will happen only if China’s leaders can see their benefits and find effective means to implement them at all levels. If they act, then the future for China and the world economy will be brighter. The alternative is economic stagnation for this great country and a higher risk of political instability. And if China slipped towards the doldrums, then the tone of my future writing on the prospects for the world economy would be solemn indeed.
* Ken Davies worked until 2010 as Head of Global Relations in the Investment Division at the OECD, where he focused on China and other Asian economies. In the 1990s he was Chief Economist, Asia, and Hong Kong Bureau Chief at the Economist Intelligence Unit. He is the founding head of a consultancy, Growing Capacity, Inc.
The views expressed in this article are those of the author alone.
Haltmaier, Jane (2013), “Challenges for the Future of Chinese Economic Growth”, International Finance Discussion Papers Number 1072, Board of Governors of the Federal Reserve System, Washington, D.C.
2012 OFDI figure retrieved from Invest in China website at http://www.fdi.gov.cn/pub/FDI/wztj/jwtztj/t20130121_148636.htm on 8 May 2013.