Why China's slowdown may get permanently worse

An investor gestures as she looks at the stock price monitor at a private securities company Friday Aug. 10, 2012. Asian stock markets tumbled Friday…
An investor gestures as she looks at the stock price monitor at a private securities company Friday Aug. 10, 2012. Asian stock markets tumbled Friday…
Image: AP Photo
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For years, global economists have forecast a slowdown in China’s breakneck growth. Now that the deceleration is actually here, rich-world investors, companies and government officials, reliant on the Chinese juggernaut for their financial well-being, seem impatient for the revelry to resume, and are hoping that the Chinese government will follow up its stimulus of package of 2008-2009 with another generous injection of capital. (On Sept. 25, the medium-sized province of Sichuan became the latest to announce a ¥3.67 trillion ($582 billion) package of measures aimed at giving the regional economy a boost.)

But economists are calling the current rate of growth the “new normal“. And there is a betting chance that, for demographic and other reasons, the Asian giant could slow much further and even have a permanent level of far less growth. Even a generous new stimulus may not ignite a new day, analysts say.

Does an economy of 1.3 billion people with GDP of $5,500 per capita that needs half a trillion dollars in ‘surprise’ government spending on largely unnecessary infrastructure every four years in order to keep growing still count as ’emerging?'” Michael Parker, an analyst with Bernstein Research, wrote in a Sept. 21 note to clients. “In short, don’t China bulls who believe a stimulus is necessary suffer from the problem that—if that’s true—there can’t be much else to be bullish about?”

Since the 2008-2009 financial crisis, developed economies have relied on China’s continued growth as a gargantuan bright spot in the global economy. In 2008, while the global economy contracted by 0.6%, Chinese GDP growth continued at 9.2% (see this handy International Monetary Fund data mapper), near the average rate at which it has expanded for more than three decades.

This year, however, Chinese GDP growth appears likely to drop to an estimated 7.5%, its first year below 8% since 1999. China’s industrial growth fell to a ten-month low in September, according to the HSBC purchasing managers’ index, or PMI. The PMI was 47.8, its 11th month below 50, which signals contracting industrial production.

The Chinese themselves are attempting to engineer a smooth slowdown. “The government recognizes that its current development path is no longer sustainable (politically, socially and environmentally) and must therefore change,” says Michal Meidan, an analyst with Eurasia Group.

By appearances, this dip has caught the rest of the world by surprise. Yet it shouldn’t have. The world’s key economic and energy models have signaled a more conservative Chinese growth rate for some time. For instance, in its forecast of 2008-2013 global energy consumption, the US Energy Information Administration factored in Chinese economic growth of just 5.7%.

It may be the speed and impact of the slowdown that have agitated those in the world who have come to rely on the Chinese economy. Olivier Desbarres, head of foreign exchange trading at Barclays, says that, while Chinese growth of 7% or 7.5% is not a crisis, no one knows where the contraction will actually stop, leading to a fear that its GDP growth could go lower.

In fact there are demographic reasons (pdf, page 1) to understand the slowdown not as temporary, but the beginning of a long-term phenomenon, one that could become much worse if not arrested. In a June 2012 study (pdf, page 18), Wang Feng of the Brookings Institution examined young workers—the type that energize an economy with a willingness to migrate and work at repetitive jobs for relatively low wages—and found a striking population decline. In 2010, there were 116 million Chinese aged 20 to 24, but that will fall to 94 million by 2020, Feng forecast, a 20% plunge. And when Feng factored in a fast-rising enrollment in higher education, he foresaw an even smaller population of workers aged 20-24: just 67 million by 2030, a 42% drop from 2010.

Barclays’ Parker suggests that the conventional wisdom—a steep upward economic trajectory, leading to Chinese economic ascendance over all—has appeared doubtful for some time. Economists have gone wrong using thin analysis, he says, relying on “four data points and a little imagination.”

“The first problem with this style of analysis is that it ignores institutional challenges, technology changes, economic dynamism (or lack thereof), resource constraints, the long arc of history, the impact on the environment, changing consumer preferences, exports as a driver of commodity consumption, and how far China has already pulled forward future demand growth,” Parker wrote in his note to clients. “Not to mention the risk of a sophomore slump. In other words, it discards context entirely.”

Parker went on: “In our view, China’s ability to reach European levels of income or sustain US levels of per capita resource consumption is far from inevitable. Among other things, misplacing the new head of the government for two weeks just before he takes office [Xi Jinping, the vice-president and presumed next leader of China, who mysteriously vanished earlier this month] certainly highlights systemic institutional risk that might impair economic expansion to developed market levels over the long term. But even if it happens, China’s path to European or US levels of income and consumption is not going to follow a straight line.”

The China juggernaut does have the flavor of prior unhappy global bouts with irrational exuberance. China won’t fall off the map. But just as Japan has suffered a hangover after the excited and (from the perspective of the West) panicky forecasts of its certain future of world dominance in the 1980s, a Chinese corrective is in order. That is what we are seeing.