How slow will China go?

Enjoy it while it lasts

Regular Insights blogger Brian Keeley is in Beijing, from where he sends this post.

You can sum up the hottest question on China’s economic future in just four words: Hard or soft landing.

At the moment, most people seem to think China’s economy isn’t about to hit a brick wall. Yes, the phenomenal growth rate since the 1990s is slowing, but it’s still at a level most mature economies would envy. After a decade in which GDP rose by at least 9% a year, it slipped back to “only” a bit above 8% by the end of last year, according to the OECD. For the next decade, the OECD forecasts annual growth will hover at around 7%.

To some extent, such a slowdown is inevitable as any economy matures – after all, you can only build so many roads, bridges and airports. But some fear it could be a sign of worse things to come – in other words, the much-feared hard landing. As China is now in many ways the engine of the world economy, that would be bad news not just for Beijing but for the rest of us too.

These questions on the mind of speakers at last weekend’s China Development Forum in Beijing, not least that of Dr. Nouriel Roubini – the economist whose all-too accurate forecasts in the run up to the financial crisis earned him the nickname “Dr. Doom”. Given his track record, it probably wasn’t surprising that he saw a hard landing as “possible” but, he insisted, “not inevitable”. To guard against it, he argued, China must undertake economic reforms, most notably to encourage Chinese to spend more and save less.

Dr. Roubini pointed out that China was the only major exporter to avoid a recession in the wake of the financial crisis. That was due in large part to massive programme of investment in things like infrastructure and property development. But, he warned, that’s not sustainable. Indeed, to some extent, the chickens from this spending are already coming home to roost, most notably in falling property prices and signs of a credit crunch as a result of loose lending.

Combine this with weaker demand in China’s export markets, most notably in Europe, said Dr. Roubini, and it’s inevitable that “the model of growth has to change”. That makes reforms essential, he stated, and those reforms must aim to turn the Chinese consumer into a much more powerful driver of the country’s economy.

So, why do Chinese prefer to save rather than spend? There are many reasons, but one of the most important is the lack of an adequate social security net. Fall ill or lose your job in China, and you quickly realize the benefits of having a few yuan under the mattress. There’s a similar problem when it comes to pensions, a major concern for China’s ageing population; the one-child policy means many elderly parents and grandparents will have to rely on just one or two breadwinners for support.

Another factor is China’s currency, which is widely perceived as undervalued, although there’s debate over the scale of this. A relatively weak currency is good for China’s exports, but it makes imports more expensive than they should be, further weakening Chinese consumers’ spending power.

The valuation of the yuan is controversial, but in many respects much of what else Dr. Roubini had to say is not. Just last week, China’s outgoing Premier, Wen Jiabao, said the need for reforms was urgent, while China’s most recent five-year plan focuses a lot of attention on expanding the social security net and on reducing inequality.

Such concerns have been widely echoed in OECD work and were repeated again at the weekend in Beijing. Speaking at the forum, OECD chief Angel Gurría called for a bigger share of profits from state enterprises to go on social spending, and for more resources to go on education and training. Such measures would deliver both short and long-term benefits for workers and the economy, not least in the form of a more highly skilled workforce.

Encouragingly, there may already be some signs that China is beginning to rebalance its economy towards a greater dependency on domestic demand. An OECD report released at the forum pointed out that real household incomes rose by 10% in 2011 (and by more in the countryside), while the share of overall consumption in GDP increased for the first time in a decade, albeit only slightly. Nevertheless, there’s no question that the task ahead will be challenging. As Yang Weimin, a vice-minister for economic policymaking, stated at the forum, “these things cannot be achieved overnight”. 

Useful links

OECD work on China

The OECD’s Chinese-language site – 网站 (中文)