The latest World Bank quarterly update on China’s economy made headlines today, as it revised downward by one full percentage point (to 6.5%) its estimated economic growth rate for China in 2009. This downward adjustment in China’s estimated GDP growth has prompted much concerned commentary, which is understandable given how entwined China’s and the world’s economic prospects have become. I’ll briefly consider here the significance of 6.5%, and the prospects, risks and trade-offs that are wrapped up within that figure.
China would of course still be performing remarkably well in relative terms, with the new projected growth rate hovering at around 8 percentage points above the projected industrialized world average for 2009. The World Bank quarterly update reassures us that “China’s fundamentals are strong”: though dampened, economic prospects remain strong, given that: (i) the financial system has remained largely insulated from the effects of global financial turmoil, and; (ii) vestiges of central planning and a very strong fiscal position mean the government has an unparalleled ability to marshal resources to stimulate growth in the short term.
The numbers are encouraging in this regard. The government moved fast announcing a RMB 4 trillion (GBP 400 billion) fiscal stimulus package last November. In the first two months of 2009 urban fixed investment – which is the most important driver for economic growth in China accounting for 42% of GDP – surged to RMB 1 trillion (GBP 100 billion), a 26.1% increase from a year earlier. China’s industrial production grew 11% in February (on a year earlier), and new bank landing in February was four times the same month last year (at RMB 1.07 trillion). These are clear signs that the fiscal stimulus is kicking in, and in a big way.
Yet several commentators are forecasting doom on the basis that 6.5% is dangerously short of the 8% target growth rate, which is widely taken to be the minimum rate of growth needed to prevent spiraling unemployment and ensuing social unrest. Quite apart from a lack of evidence of such a social threshold at 8%, such dire outcomes are not inevitable. The silver lining in the current economic cloud is that China faces an unprecedented opportunity in this crisis to rebalance its economy, and by extension contribute to the rebalancing of the world economy. To make 6.5% socially sustainable the Chinese government will have to steer its economy away from the capital-intensive, export-led growth path of the past few years, towards labour-intensive growth powered by domestic demand.
Instead however, the government response seems to be reinforcing the structural imbalances that are at the source of China’s economic vulnerabilities – and to a certain extent of global economic imbalances – today.
The fiscal stimulus and financial easing measures are sizeable and speedily administered, but far too much of the money is pouring in to sectors already plagued by overcapacity. Around half of the stimulus package will be spent on infrastructure investment, compared to just 1% on social spending and 9% on the environment. This kind of short term boost is unlikely to do much to increase consumer spending in the medium term. A similar story can be told of the massive injections of credit. As Michael Pettis explains in a recent article in appearing in Newsweek: “because of the structure of the Chinese financial system, all this new lending is channeled into the manufacturing and infrastructure sectors”.
In normal times China’s huge overcapacity – domestic production outstrips consumption by about 10% of GDP – is simply exported to the world. It is worrying therefore that even as industrial production and bank lending soared, external trade slumped: exports tumbled 25.7% in February (from a year earlier), and imports fell 24.1%. With slumping global demand, where will all this excess capacity go?
The World Bank update rightly recommends that:
Looking ahead, less focus on targeting short term GDP growth would allow for more emphasis on the rebalancing and reform agenda […] There are useful synergies between China’s short and medium term policy objectives. The subdued prospects for the global economy – and thus for exports – increase the importance of boosting domestic demand and domestic consumption, which is also key for rebalancing.
