An obsession with stable growth leads to vulnerabilities in China
Posted by hkarner - 22. Dezember 2016
Source: The Economist
Subject: Smooth sailing, until it’s not
Risks lurk outside China’s borders and within it
WHEN 2016 dawned the economy that investors fretted about most was China’s. Memories of a huge stockmarket crash were still fresh. Capital was pouring out of the country as savers anticipated a devaluation of the yuan. In the event, other countries provided the year’s big upsets. And in some respects, the Chinese economy is stronger today than it has been for a couple of years. Producer prices, mired in deflation for 54 straight months, are rising at last. Corporate profits are turning up. Promises to cut overcapacity in coal and steel, and to reduce the overhang of unsold housing, have borne fruit. After three straight quarters of 6.7% annual growth, economists are converging around—you guessed it—6.7% in their forecasts for the final quarter of 2016.
However, this outward stability is misleading. Risks lurk both outside China’s borders and within them. If it does not change its attitude to reform, the Middle Kingdom could soon be atop investors’ minds once again.
One obvious source of anxiety is the potential for a trade war. Much depends on what Donald Trump does when he takes office in January. But tensions are already rising. China had expected to win the status of a market economy in December, 15 years after its accession to the World Trade Organisation, but the West refused. Because China sees this as a broken promise, a game of tit-for-tat protectionism may well ensue.
Another flashpoint is the currency. Expectations of higher interest rates in America have strengthened the dollar, to which the yuan is partly linked. Meanwhile, Chinese companies and people want more foreign assets, pushing the yuan down. One way the government tries to make the decline gradual is with capital controls. Yet that only adds to the perception that depreciation is a one-way bet, which fuels more outflows. In addition, these controls, if persistent, will undermine confidence in the economy, a deterrent to future investment. Add in Mr Trump’s outdated assertion that China is weakening the yuan so as to help its exporters, and the government is in a bind: the right macroeconomic recipe risks a trade war.
Locking the stable door
Even if China’s trading relations remain calm, the domestic economy suffers from enormous unresolved problems. Despite a government pledge, the country has failed to make a start on deleveraging. A mix of policies (notably, letting local governments swap loans for bonds) has made debts more sustainable. But they are still growing twice as fast as nominal GDP. Total debt should hit nearly 300% of GDP in 2017, an unprecedented figure for a country at China’s income level. Concerned about frothiness in the bond market, the central bank recently tightened short-term liquidity. When smaller firms started to suffer, it quietly ordered big banks to lend to them.
Last, property is a source of recurring concern. China imposes a bewildering array of restrictions that determine who can buy homes where and with what kind of mortgage. The country’s leaders put their aim succinctly when they outlined their plans for 2017: there shall be “no big ups and downs” in the housing market. But micromanagement has led to a chronic undersupply of homes and thus to bubbly prices in big cities, where growth is strongest, and to a glut in smaller, weaker cities. Were China to heed the price signals, it would let the property market adjust to fit the population. Instead, it wants to adjust the population to fit the property market, driving people—typically, low-income earners—out of big cities.
These trade-offs are devilishly hard to manage. And the government is even less willing to take risks than usual. In autumn 2017 the Communist Party will gather for a big quinquennial conference, where President Xi Jinping is expected to consolidate his grip on power. Before then, no one in Beijing wants to risk reforms that would spoil the occasion if they failed.
However, the pursuit of economic stability often sows the seeds of its own demise. In the case of dealing with America, incrementalism has stored up trouble: giving in to the market and letting the yuan fall may now hasten a trade war. And if officials really were to slow credit growth, the economy would soon feel it. Who would dare risk that when Mr Xi wants growth to stay at around 6.5%? Investors may like the appearance of stability. But to avoid a crash tomorrow, China must accept more bumps today.