Monday, 10 Oct 2011
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China Economy: Can China Weather another Global Crisis? – September 2011
British Embassy Beijing
A global recession would be a serious concern here, despite China's reduced dependence on exports. Some commentators worry that China's existing investment binge makes it impossible for the authorities to stimulate the economy as they did in 2008. But the majority view here is that China still has the the scope to support growth if needed, albeit at the cost of increased medium-term financial risk. .
China's exposure to the sovereign debt of vulnerable eurozone economies is likely limited and its banks remain largely insulated from the global financial system. China is therefore more concerned that ongoing events in the eurozone, coupled with weakness in the US economy, will drive the world economy back into recession. China largely weathered the last global economic crisis by unleashing an enormous fiscal and state bank-financed stimulus package. This averted a serious increase in unemployment and social unrest in China, and aided the global economy's recovery. As the world teeters on the brink of another financial crisis attention is understandably focused on China.
In terms of GDP growth and inflation levels, China is in a very similar position now to the one it found itself when the 2008 global crisis hit. The IMF predicts growth in 2011 will be 9.5%, below last year's 10.4% - largely the result of deliberate policies to cool the overheating property market and dampen inflation. This is comfortably above the authorities' cherished 8% growth target (it takes growth of that order to sustain the job creation needed to maintain social stability). Should the global economy slip back into recession growth could fall to, or below, the 8% level.
One of China's leading economists recently commented that China was less exposed to a global slowdown than it was in 2008. In 2007 China's current account surplus was equivalent to over 10% of GDP. In the first half of this year it was around 3%. Many Chinese economists point out that domestic demand alone has been sufficient to exceed the authorities' 8% growth target in the last few years. But this is not because the economy has 'rebalanced' more towards domestic consumer spending. On the contrary, household consumption as a share of GDP remains among the lowest of any major economy. Growth has instead become even more reliant on fixed asset investment.
This raises questions over the sustainability of domestic demand, and therefore whether China really can withstand a major slowdown in the global economy. The state bank lending splurge which rescued the economy in 2008-09 has increased vulnerabilities in the banking sector (in addition to fuelling inflation). Lending to unofficial local government investment vehicles and the property market are particular concerns. Pessimists, predict that as many as 20-30% of the loans extended in the last few years will turn into non-performing loans (NPLs). Other analysts believe the figure was likely to be closer to 5% - though they admit that should the economy falter this figure would rise. The banking regulator, CBRC, accepts NPLs will likely rise, but points out that the official NPL ratio is only around 1% at the moment. Banks are highly capitalised and have significant loan loss provisions. State banks are also protected by a favourable interest rate policy framework.
Another concern is the health of small and medium-sized enterprises (SMEs) - which produce 60% of China's GDP, 60% of exports, and provide 80% of urban employment. They are arguably in a weaker position than they were heading into the 2008 crisis. They are struggling as a result of difficulties in accessing finance, coupled with rising labour and raw material costs. A sharp drop in global demand could push many SMEs over the edge, increasing unemployment.
If growth does stall many foreign commentators believe the authorities would struggle to pull off a repeat of their 2008-09 stimulus trick. When the global financial crisis struck in 2008 China was running a small fiscal surplus. But due to the sizeable fiscal stimulus over the last few years that surplus has turned into a deficit - expected to be equivalent to 2% of GDP this year (modest by international standards). And the build-up of local government debt has pushed overall government debt levels up to around 70% of GDP, similar to the UK.
But most local economists believe the authorities still have the fiscal scope to support growth, and therefore protect social stability, if required - even if their pockets aren't quite as deep as they were before. The IMF agrees, though has advised China to target any stimulus spending on boosting consumer spending, rather than unleashing another bout of state bank lending - which would further exacerbate distortions in the economy. Accelerating the construction of affordable housing would also likely form part of any new stimulus package. If needed, the authorities could also quickly reverse the tightening measures they have taken to cool the property market and inflation.
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