Is China Ready For Downfall ?

Posted in Finance Articles, Total Reads: 2553 , Published on 11 November 2011
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China is growing, not only as it seems by many now, but since the 1978 reforms it is growing and growing. Some doubt this growth to be without substance while others seem confident. Fors and against continue, amidst it is a fact that China is heading forward, whether to better or degrade, will be discovered with time.

Is China Ready ?

The global economic crisis provided clear evidence that China’s export-driven economy is vulnerable to dips in demand in the rest of the world. China’s monstrous $586 billion stimulus package in 2009 staved off severe hardship and effectively reinvigorated the economy.

For decades, China’s blistering growth has depended on exports and investment. The country has become the world’s workshop and lifted millions out of dire poverty. And for the first time in nearly two centuries, China has returned to a position of global power and influence. But this growth model is no longer easily sustainable. There needs to be taken steps to ensure this growth. The countries policy makers are well aware of this fact and hence, they are committed to rebalancing the country’s economy because their capital-intensive, export-oriented approach is delivering diminishing returns and threatens to become a major political vulnerability for the government.

The global financial crisis left in its wake a transformed international economic environment and imbued a sense of urgency for structural change. It is this alignment of external pressure with domestic imperatives that has prompted Chinese policymakers to rethink their approach. Inclusive growth with contrast to the present scientific development would be one of the major criteria of focus for the economy in the coming years. Beijing will seek to redirect its incessant and longstanding preoccupation with GDP growth toward more “people–oriented growth,” emphasizing programs and reforms that can boost individual citizens’ welfare.

This welfare and people oriented approach will entail providing more job opportunities to the highly labour intensive economy and to the upcoming educated class of population. Also should shift the concentration of money from corporate to households and increase the household consumption level and reaching out to new areas for investment.

Geographic rebalancing and Industrial Rebalancing

 

The policy of inclusive growth would involve diversification of industries in areas not yet developed. But there will be not much trouble in pushing economic activity from the coast to central and western China. That initiative should gain support from local and provincial officials since it will mean additional investments in infrastructure, expanding regional development plans, and adopting investor-friendly regulations. Gradual relaxation of the country’s system of residency permits will also promote urbanization in central and western China, including third- and fourth-tier cities.

 Not Socialist really

 

Also China is believed to be a country provided cheap low end products and thus is believed to be unable to touch the higher segment of people. Its world dominance is doubted on this premise. But the fact lies that China has the economic strength to change the current scenario. It is committed to moving up the value chain and has the fiscal resources to spur investment in the so-called emerging strategic industries. Such investment enjoys broad support from the leadership because it promotes innovation and helps realize the country’s energy objectives. Investments in new industries and advanced manufacturing should also resonate well with China’s powerful industrial conglomerates.

 

 

The major flaw that exists in the Chinese economy is the weak financial sector. Chinas economy is overly depended on fixed asset investment and exports. Consumption is about 35% of GDP much below the limit in other developing nations. For a developing economy, high saving in principle has the benefit of providing cheap and abundant capital that can help generate growth in employment and output. For want of other financial investment opportunities, however, most Chinese savings end up as deposits in state-owned banks, which have done a poor job of intermediating these funds. This money has helped fuel a recent investment boom, with gross investment now amounting to about 45 percent of China’s GDP. A significant fraction of this investment has been undertaken by state enterprises concentrated in a few sectors, suggesting that much of this investment may not be productive or could result in a buildup of excess capacity in those sectors. Thus it is highly required to promote capital markets and also promote consumption at the household level. One set of policies will aim to transfer wealth from producers to households in the form of continuous income hikes or forced dividends from companies. There is need to promote the private sector which would not be influenced much by the government interference. The powerful nexus of corporate and state interests will also stymie a shift towards a more market-based economy. Broad-based household income growth must ultimately be underpinned by the development of vibrant private industry, and the likely absence of policies to that end means that much of China’s needed rebalancing will have to come in subsequent FYPs. Indeed, state-owned corporations will see to it that new policies do not compromise their dominant market position, hampering the creation of a more competitive private sector more broadly.


Chinese banks high reliance on Interest Income

 

State-directed funding for infrastructure and corporate investment causes enormous inefficiencies and distortions. Lending is diverted to large state-owned or politically connected companies, leaving most small, medium-sized, and private enterprises starved for capital. Moreover, given the government’s implicit backing of loans for statesupported industry and development, the central bank has only a limited ability to control the level of lending in the economy. This scenario inevitably propagates nonperforming loans. Heavy state influence over lending decisions and practices, especially amidst a return to credit-fueled growth in 2009 and 2010, has created too much liquidity in the financial system.

 

Thus, the major steps that the economy needs to take is to mobilize the savings well and develop the capital market and promote private investment. The regulators will have to focus on promoting the commercial banking system.

 

The fact lies that though the world is questioning the sustainability of China’s growth the political leaders in the country have direct experience with the problems of interior China. Steps have been taken to increase the reach of development to far of places. Better infrastructure facilities, regulations for rising wages, promotion of private sector all have started. the country has plans to improve the financial sector. The 12th five year plan does take into consideration this major shortfall of the economy. The only hindrance to this would be the political interests of the policy makers.

Beijing will make considerable headway in shifting the locus of growth and investment inland and promoting urbanization, for example. And China will likely meet its industrial targets, thereby helping the country to achieve its employment goals and reduce its carbon footprint. Most significantly, it is Beijing’s ability to intervene in the market that will create incentives for different stakeholders to accommodate this agenda. But the same tendency to intervene in the economy, particularly in China’s financial system, could well set up a battle over capital allocation and investment decisions, in which powerful stakeholders will resist any attempt to transfer wealth to new constituencies.

 

China can achieve some of its goals. But, the country’s leaders lack the political stomach and sense of the moment to implement a comprehensive and ambitious rebalancing agenda. They have correctly diagnosed many of China’s underlying economic challenges and have, at least on paper, prescribed many of the needed remedies. Yet, as innately conservative technocrats, their inclination to put off the toughest decisions about China’s political economy means that China will confront even starker choices down the road. Failure to implement key portions of the rebalancing agenda will jeopardize China’s economic trajectory. And over the longer term, such failures could also threaten China’s political stability.

About the Author

This article has been written by Aanchal Mittal from We School, Welingkar Institute (Mumbai)

 


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