The Chinese government has intervened to devalue the yuan as concerns heighten over the slowing of the economy. The dilatory pace of serious structural reforms in the state sector is dimming the outlook for China.
The Asset Bubble Finally Collapses
The dilatory pace of political and state-sector reform in China is giving rise to market turmoil. As surging real estate prices inflated an asset bubble in the years to 2014, the Chinese government instituted controls on real estate investments to avoid the catastrophic bursting Japan suffered a quarter of a century ago. Such action redirected the flow of liquidity to the stock market and fueled the ascent of share prices. This was not a disagreeable outcome for the Chinese government. In neighboring Japan, the implementation of quantitative and qualitative monetary easing as part of Abenomics boosted share prices, and Japan broke the grip of a vicious cycle of economic stagnation labeled by some observers as “the lost 20 years.” The wealth effect of rising stock prices is certain to have provided a major hint to the Chinese government.
While monetary easing can lift share prices momentarily, they will eventually fall back unless the real economy improves. This bad dream arrived in June 2015 when the Shanghai Composite Index plunged downward after surpassing 5,100. To maintain share prices at a high level, the Abe administration has released the second and third arrows of Abenomics—fiscal stimulus and growth strategies—in an effort to improve the real economy. In contrast, the structural transformation promised by Li Keqiang when he became Chinese premier two and a half years ago has yet to occur.
Given the fundamentals of the Chinese economy, it is hardly surprising that stock prices have fallen sharply in the context of a slowing economy and the sluggish earnings of listed companies. As a senior International Monetary Fund official has remarked, China’s asset bubble has burst.
Bad Debts Accumulate
There are many similarities between the current Chinese economy and the Japanese economy at the start of the 1990s. At that time, the collapse of an asset bubble ushered in an economic downturn. One noteworthy difference is the Chinese economy continuing to grow at a rate of 7% in official statistics for real GDP growth rate. There are doubts, however, about the reliability of this figure. Many economists believe that the actual growth rate is closer to 5%. Even if we accept the 7% figure, this would still mean that the economy has decelerated from growth of 8% or more in previous years.
Main Indicators of the Chinese Economy (2009 to First Half 2015)
(Year-on-year change, %)
|2010||2011||2012||2013||2014||First half 2015|
|Real GDP growth rate||10.3||9.2||7.8||7.7||7.4||7.0|
|Li Keqiang Index||15.0||12.1||7.7||9.1||4.9||2.9|
|Fixed capital formation||23.8||23.6||20.6||19.6||15.7||11.4|
|Real estate investments||33.2||27.9||16.2||19.8||10.5||5.7|
|Urban unemployment rate||4.3||4.1||4.1||5.0||5.1||5.1|
- Real income of urban residents is per capita disposable income; income of rural residents is per capita net income.
- The urban unemployment rate is the registered unemployment rate to 2012 and the surveyed unemployment rate from 2013.
- Li Keqiang Index = (growth rate of railway freight volume x 25%) + (growth rate of electricity consumption x 40%) + (growth rate of outstanding bank loans x 35%).
- The urban unemployment rate is the % figure for each year.
Sources: National Bureau of Statistics of China; Ministry of Commerce, PRC; People’s Bank of China; and Ministry of Human Resources and Social Security, PRC.
Many companies have assumed economic growth of 8% or more in developing their investment and fund-raising plans. With the rapid slowing of the Chinese economy, however, more than a few companies are experiencing difficulties in meeting debt service obligations. While definitive statistics have yet to be released, the view is widespread among economists that China’s state-owned banks are weighed down by a mountain of bad debts. If an economy is growing at a rate between 2% and 3% and this rate accelerates to 7%, companies will find it far easier to pursue business opportunities. Thus, what is problematic is not 7% growth in itself but the change in the trend growth rate.
The Chinese government has defined growth of around 7% as the new normal, which by all appearances it seems to accept. It is reasonable to think, however, that the government would prefer to achieve a higher growth rate. Economic growth is the only measure that legitimizes the Communist Party of China. For this reason, the Chinese government has set caution aside to reverse the direction of plunging share prices.
Senior Fellow at Fujitsu Research Institute. Born in Nanjing, China, in 1963. Graduated from the Jinling Institute of Technology in 1986 with a degree in Japanese. Arrived in Japan in 1988. BA in Law and Economics from Aichi University in 1992. MA in Economics from Nagoya University in 1994. After working as a researcher for the International Research Group of LTCB Research Institute, became a Research Fellow at the Fujitsu Research Institute in 1998. Appointed Senior Fellow in 2007. Member of the Council on Customs, Tariff, Foreign Exchange, and Other Transactions, Ministry of Finance (2000–2009). Member of the China Research Conference, Policy Research Institute, Ministry of Finance (2001–2002). Publications include Bōsō suru Chūgoku keizai (The Runaway Chinese Economy), and Chūgoku ga futsū no taikoku ni naru hi (The Day China Becomes an Ordinary Major Power).