The new Chinese authorities attempt a complex and risky maneuver: decelerating an economy that is at its very summit to redesign its growth.Nothing in China is left to chance: landing the product expansion rates from 10% to 7%, or even lower, is not a consequence of a surprising and unexpected recessive dynamic but the reflection of the Chinese economic growth’s model redesign: this redesign will slow investment down and will privilege the domestic market.
From 2008 and especially since 2009 the Chinese exports have ceased to be economy’s main propelling force giving way to investment as an engine of growth. This change of course lead to a growing proportion of the gross domestic product to be allocated in investment: from an already extremely high 42% in 2007 it evolved to an utterly unbelievable 48% in 2010.
The fuel that set in motion and activated this economy engine was an explosive credit growth: loans grew at a 30% annual rate in 2009. At the same time and as the international crisis became globalized, the exports’ growth rate decreased year after year until it reached a negative growth rate by the end of 2013’s first trimester. With exports losing vigor and public and private investments depending on monetary and credit stimulus that may become unsustainable, the new administration is urgently seeking to regain economic balance by transforming a growth model essentially driven by investment into another model that will also be sustained by public and private consumption.
Obviously an economy driven by the domestic market cannot reproduce the growth rates China had us used to over the past few years. Once investment engines are decelerated by political choice and exports’ by the decrease in global demand, the focus is redirected towards consumption. In an economy as large as China’s, a shift in orientation of these dimensions is associated to significant domestic risks and considerable impacts at a global scale.
In an economy in swift deceleration several types of domestic risks are involved: (i) risks associated to the management of inventories since their level depends on economy’s growth and not on the level of activity; (ii) risks regarding investments in fixed capital which can drop abruptly; and (iii) risks associated to the adaptation of companies to new profit levels that could affect corporate liquidity and increase indebtedness which is already a serious problem in China. These factors could generate a decrease in investment beyond what is foreseen. None of them is unmanageable but they cannot be ignored either because if materialized they will have an impact on the rest of economy deepening the product’s decrease and affecting the transition towards a new growth model.
So far the trimestral contribution to growth from the domestic demand indicates the wanted transition has been taking place according to plan. However, analysts such as Paul Krugman, are pessimistic about China’s capacity to seamlessly carry out a model shift of this scale. In a recent article in the New York Times, Krugman commented ‘China is a great problem; we are not talking about a little bump on the road, but of something more basic. The economic system that has had three decades of amazing growth, has reached its limit. One can say the Chinese model is about to hit the Great Wall, and the only question now is how serious the fall will be’. Investment will drastically decrease and in order to regain consumption’s equilibrium it must increase significantly, the question is whether this can happen fast enough as to avoid a nasty fall. And the answer seems to be negative. ‘The need of regaining balance has been clear for years, but China has simply postponed the necessary changes, maintaining its undervalued currency and flooding economy with cheap credit. These measures postponed final judgment day, and now it has come’.
Krugman’s views and predictions are quite severe but they result unsettling considering the source. If these predictions were true and instead of regaining equilibrium as planed we were in presence of a decelerating economy at risk of spiraling down uncontrollably, we would be entering a third phase of the contemporary global crisis: United States was first joined by Europe and now it could be China’s turn. Let us hope Krugman is wrong this time although his views open a debate: is the deceleration a ‘pivoted’ return towards equilibrium or is it the consequence of a growth model entering a phase of exhaustion due to structural problems and postponing the necessary corrections in the adopted economic policies?
Impacts on global economy
As for the impacts that the Chinese growth deceleration will have on the global economy, we must consider we are talking about a scheduled rates’ growth revolving 7%, which is not negligible at all. These rates equal a 3.5% growth of American economy instead of the 1.7% as forecasted for 2013. It is undoubtedly a disillusion for those who thought the ‘Chinese rates’ had come to stay forever, among others, many emerging economies including several from Latin America. However, it is still encouraging for the global economy that the second economy of the world is growing at 7%.
In addition to the growth rate’s scale, what generates impacts at global economy level is the change in the structure of demand associated to the transition of an investment driven economy towards a consumption driven economy. The list of countries and sectors vulnerable to this transition is a long one: from the Australian mines to the German equipment and machinery manufacturers, going through the countries that produce steel, iron, coal, copper, nickel, grains and a long list of commodities, whose demand and price will be affected in different scales.
The ‘supercycle’ or boom in the price of commodities loses strength although the decline in the price of each commodity will depend on its link with the new structure of Chinese demand. Those closely linked to public and private investment will feel a strong blow. Let us consider, as an example, that the Chinese share of the steel global demand has risen from 16% in 2000 to 44% in 2012, the nickel share took off in the same period from 6% to 45%. If investment is decelerated these outstanding increases in several mineral’s demand and price will pull back, same way it is already happening with many of them. But the impact on the products positively associated to an economy that will privilege consumption will be favorable or less affected by the Chinese growth’s deceleration. Such is the case of food, final consumption manufactures, cars and luxury goods.
The same thing will happen in Latin America: we will feel a strong ‘buzz’ only of smaller scale in those countries that produce food and with a higher level of aggregate value in their production. On the opposite, those who have founded their growth around the production of minerals will be considerably affected.