Home quarantine for mild cases, no more negative test evidence for access to public space: China is easing draconian measures against the spread of Covid-19. It may be that Beijing is giving in to the growing social unrest surrounding the Covid policy. But the economic need to drastically change the approach to the pandemic is also growing. Because the Chinese economy itself is not doing very well.
The countless lockdowns, sometimes of entire city districts, are starting to take their toll: China’s economic growth of just over 3 percent this year is the lowest since 1977 – except for the ill-fated Covid year 2020. The prospects are, by Chinese standards, not good. The Caixin index of purchasing managers in the industry has already fallen structurally below a value of 50 since February, which indicates contraction. The services sector lasted longer, but the index has also been below 50 for three months now.
The official release of the Covid easing on Wednesday coincided with the latest data on China’s foreign trade. Exports contracted by 8.7 percent on an annual basis, imports by 10.6 percent. This points to a decline in both economic activity and domestic consumption.
The major multilateral institutions are virtually in agreement on China’s economic outlook: the think tank of the 38 industrialized countries of the Organization for Economic Co-operation and Development, which China now includes in its analyses, expects an economic growth of 3.3 percent this year, 4.6 percent next year and 4.1 percent in 2024. The International Monetary Fund (IMF) is thinking of 3.2 percent this year and 4.4 percent in 2023. That gives an average of one percent or 4 – far below the official target of an average annual economic growth of 5.5 percent.
The enormous, constant economic growth that made the country the second largest economy in the world after the United States is now really over. Between 1997 and 2007, a year before the global financial crisis, average growth was 10 percent. After that, until Covid, growth slowed down to between 6 and 7 percent. Longer-term projections are now moving in the direction of average growth of around 4 percent.
This casts a different light on China’s ambition to become the world’s largest economy. Not so long ago it was thought that Beijing would succeed in doing this around 2030. But with a structural growth of 4 percent, compared to a growth of 2.5 percent for the United States, that could now take until 2045. Provided that China manages to maintain that growth rate of 4 percent.
This creates the need, both in the short and long term, to get the Chinese economy back into the high gear Beijing was accustomed to. But does that work? In addition to structural limitations such as the aging population, which also affects the West, China is struggling with a mountain of debt that could hinder future activity.
According to calculations by the International Institute of Finance, the international think tank of banks, China has a total debt of 352 percent of gross domestic product. That is a lot, but comparable to the eurozone or the United States. Corporate debt, in particular, is enormous. At 155 percent of GDP, corporate debt in dollar terms is unparalleled internationally.
This mountain of credit mainly reflects the out of control Chinese real estate sector, which has been in trouble for a year and a half. The best-known example of this is the real estate giant Evergrande, which has now all but succumbed to its debt burden.
The whole turn of events points to a crisis in China’s growth model. Before 2010, Chinese economic growth was mainly driven by the migration of Chinese workers from the countryside to the cities, and by investment and high productivity growth. After 2010, growth came much more from government spending, from high credit and rising house prices. But that growth model has now also come to an end. The resulting domestic indebtedness is now weighing on China and house prices are falling.
Reopening society is now the only way out, as demand for China’s products is faltering both domestically and abroad. Domestic: by the Hong Kong newspaper South China Morning Post polled economists point out that the Covid policy so far this year alone has led to hundreds of billions of dollars in lost prosperity growth. And abroad: the West is still China’s largest export market – Chinese exports to the rest of Asia often take place within production chains whose end products also end up in the US and Europe. The same West is now struggling with a sharp slowdown in growth, if that is not already a recession. ING pointed out on Wednesday that Chinese exports of smartphones fell by 9.6 percent.
China will therefore have to rely mainly on a revival of its domestic demand for the time being. But the policy that should lead to this, the reopening of society and the economy, requires a precarious balance between public health and prosperity. An opening that is too impetuous sets in motion a pandemic dynamic that may now be even more damaging than the Covid policy so far. Citizens have already started saving more, just to be on the safe side, the OECD notes. Not only because of the housing crisis, but also because of the uncertainties surrounding Covid. It will take a lot of effort, and above all trust, to get the average Chinese out of its shell again. And China will really have to rely on that domestic consumer for the time being.
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