17 July 2019

Where is the Chinese Economy Headed?

Monitoring data and trends for the Chinese economy has become an obsession for many economists, particularly in recent years as the world’s second-largest economy has begun to look increasingly unstable and at risk of a major downturn.  After growing by an official rate of 10% per year for a period of more than 30 years, the Chinese economy has seen growth (both official and actual) slow significantly in the final years of this decade.  Worse, this slowdown has been accompanied by the two things that businesses and investors fear most, volatility and uncertainty. Furthermore, as China is now the second largest economy in world, one that accounts for 16% of global economic output, any volatility and uncertainty in China now has major ramifications for the rest of Asia and for the entire world. 

In the second quarter of this year, the Chinese economy expanded by an official rate of 6.2% on a year-on-year basis, the lowest rate of growth in China since 1992.  On the positive side, retail sales in China appeared to rebound from a slump earlier in the year, while industrial production also recovered from an earlier slowdown.  Nevertheless, there are a number of factors in place that are holding back growth in China. One high-profile factor is the ongoing trade dispute between the United States and China, a dispute that has resulted in a decline in export revenues in China as well as a shift in manufacturing operations to other low-cost production locations.  Another is the fact that consumer spending levels in China are not rising as fast as they did in previous years.  All of this is leading to a higher level of uncertainty that is resulting in businesses and investors holding off on committing to new projects as long as China’s external and internal troubles persist. 

Looking ahead to the remainder of this year, it is likely that many of the troubles that plagued that Chinese economy in the first half of this year will remain in place.  First, it is likely that the trade dispute between the United States and China will continue in the coming months, and, even if it does not escalate, the uncertainty that it brings will be a drag on the Chinese economy. Furthermore, even if there is a resolution to this dispute, demand levels in many of China’s main export markets are forecast to weaken over the next year, holding down export revenues. At the same time, domestic demand growth is expected to remain below the levels of previous years, even with the slight improvements seen last month.  This is evident not only in lower retail sales data, but also in the lowest levels of imports entering China in recent months. 

The big question facing China and the world at the moment is whether or not this period of slower growth, higher volatility and increasing uncertainty in China is a temporary situation or the beginning of a long-term trend.  For most economists, it is inevitable that economic growth in China will continue to slow as it becomes a wealthier country and as its ability to generate growth via exports decreases.  Already, officially rates of economic growth are just a little more than half of what they were during the peak period of Chinese growth, while actual rates of growth are likely much lower still.  Optimists will point to some one-off events that are holding down growth, such as the US-China trade dispute and the current weakness in many export markets. Nevertheless, there are some long-term factors that suggest that even lower rates of economic growth are in store for China in the coming years and decades.  For example, decades of low birth rates mean that China’s working-age population is shrinking and will decline at an accelerating pace in the years ahead.  Another factor in the so-called middle-income trap that dictates that, when a country reaches a certain level of per capita income, it will inevitably see economic growth rates slow dramatically.

The direction of the Chinese economy in the coming years will play a huge role in China’s future and will be a key factor determining China’s role in the world.  For many years, it was assumed that the Chinese economy would surpass the United States economy in terms of size sometime in the near-future. However, China’s recent economic difficulties indicate that the day in which China overtakes the US to become the world’s largest economy might be further in the future than previously believed. Furthermore, should economic growth in China fall to lower levels than expected for a prolonged period of time, the country will be impacted in many other areas.  For example, lower rates of economic growth could force the government to slow its expansion and modernization of China’s armed forces.  Or, investment in high-tech industries could be reduced, hampering China’s aims of challenging the US and others in a number of high-tech sectors.  Should China’s slowdown prove to be both deep and long-term, China’s global influence could be weakened and its efforts to play a leading role in global affairs could be stifled as it is forced to focus on more issues at home.  As a result, there is clearly much to watch with regards to the health and the direction of the Chinese economy in the coming months and years.