Chinese economy: A miracle no more?

• China’s GDP growth reached 6.2% in the second quarter of 2019, the slowest since 1992 since it first starter recording data.
• The world is coming to grips with the fact that the Chinese miracle growth story could be nearing its end, exacerbated by the global slowdown and the trade war.
• If Chinese demand slows down as it is anticipated, its raw material requirement will be less, and India may not be able to take advantage of the Yuan devaluation.
• On the other hand, India’s push for infrastructure development could get a push from cheap Chinese funds and resources.

It’s a question that weighs heavily on the minds of policymakers, investors, businesses and academicians across the globe – is the much celebrated and even widely feared Chinese economic miracle nearing its end? The debate has got louder over GDP data for the quarter ending June 2019, when China’s GDP grew at a rate of 6.2% YoY. This is poor by the lofty standards of the Chinese economy, being its lowest growth rate in nearly three decades. 

China laid the foundations of its spectacular export-led growth story in the mid-1980s when it started opening up its economy, inspired by the success of its East Asian neighbours. After joining WTO in 2001, China was fully able to integrate into the world economy. After 2001, Chinese exports grew at a rate of 27.3% while the imports grew by 24.8%.

Due to this growth rate, China was able to maintain a current account surplus after 2004 and still continues to do so. With the increasing trade volumes, China’s trade dependency also increased; total trade volume as a share of GDP reached 65% and exports as a share of GDP went up to 35%. GDP itself grew an average of 10% per annum from 2000-2013. The extraordinarily high trade volumes could be attributed to the undervalued Yuan and the double impact of fast-paced industrialization and rural-urban migration.

But now, the middle-income trap seems to have finally taken over, led by the continued global slowdown, rising debt (due to the stimulus package launched in 2008), a housing bubble, declining cost competitiveness and of course the trade war with the US. The projected growth rate for 2019 is 6.6%, which is a clear reflection of plummeting growth and it is partially due to the repressed household consumption and diversion of household savings to investment. If we have a look at the debt of the Chinese economy it juxtaposes the slow projected growth rate as, it jumped from 148% of GDP in 2007 to 249% of GDP by early 2016 and now it has crossed 300%.

Plausible reasons for a sullen outlook also include domestic structural factors such as the aging of the population, diminishing pool of surplus agricultural labor, declining return to capital, economic distortions such as preferential treatment of state-owned enterprises, factor price distortions, and excess capacity. Cyclical factors mainly include the slower growth of advanced economies in the wake of the global financial crisis of 2007–2009, the European sovereign debt crisis between 2009–2014 and Chinese self-goal of 2015-16, when Yuan was deliberately devalued.

https://data.worldbank.org/indicator/NY.GDP.MKTP.KD.ZG?end=2018&locations=CN&start=2006

China’s total debt burden surged strongly in last six months as it permitted more loans and local government bond issuance to buttress the sluggish economy. The debt figure shot up at a whopping figure of 304% of its gross domestic product (GDP) in the first three months of the year, up from 297% a year earlier. The Chinese government has sought to abstain from corporate debt by restricting borrowing through informal channels, known as shadow banking.

While the restrictions have prompted a reduction in corporate debt in non-financial sectors, net borrowing in other sectors has surged, bringing total debt to over US$ 40 trillion, which is equivalent to around 15% of overall global debt. Total debt has risen by US$ 2.9 trillion since the first quarter of 2018, bringing the overall debt mountain to an all-time high of over US$ 69 trillion in the first quarter of 2019.

Also, Chinese workers are beginning to demand higher wages, and commodity prices are also driving costs up, which is increasing prices by an average of 5% a year (estimate by The Economist). As a trickle effect, higher wages will increase prices and workers will ask for even higher wages as prices are rigid. This makes it harder to control prices and inflation rates.

If Chinese demand slows down as anticipated, its raw material requirement will be less, and India’s exports to that country will decrease to such an extent that we may not be able to take advantage of the Yuan devaluation to earn more dollars. Thus, it seems that little daunting for India as well to continue narrowing down its trade deficit with China in coming couple of years.

The impact of Chinese economy has slowed down now, and is also going to affect the trade growth of EU, Japan and South Korea as it is major trading partner with these economies. Exports are unlikely to provide a major source of growth for China in the future, given the current state of global demand and China’s already-large share of global trade.

As an increasingly important global and regional economic power, China’s slowdown may cause large spill over effects to its neighbouring economies including India. Compared to what imports, Indian exports to its northeastern neighbour are less diverse. Raw cotton and cotton yarn, petroleum products, iron ore, granite, raw aluminium, copper and other metal products along with some spices account for over 70% of our exports by value.

It is estimated at over US$ 100 billion worth projects are under execution by Chinese companies in India. India’s big push for infrastructure development could get a boost from cheaper Chinese funds and resources. Chinese cooperation in the development of India’s high-speed rail network, renewable energy sector, smart cities and more importantly, the manufacturing sector, could become more feasible in the wake of reduced possibilities and opportunities for Chinese companies in their home country.

Moreover, a continuation of the trade war could see more companies looking to shift their base from China to India. Over 50 companies have reportedly pulled out of China to set up base in other countries. Apple has already asked its staff to reconsider the implications of moving 15-30% of its production capacity to India. Therefore, it is critical for India to carefully assess and leverage the situation arising out of the US-China trade war and the slowdown in the Chinese economy, while minimising the negative impact.