Sunday, March 18, 2012
China’s expansion: best and worst case scenarios
A newly released report by the World Bank and the Development Research Center (DRC), a prominent think tank in China, warned that by 2025 China’s economic growth rate would decline to an annual average of 5 per cent — a sharp fall from the 10 per cent average of the last 30 years.
In a widely cited article published in 2011, Liu Shijin, the DRC’s deputy director, also predicted that the average growth rate would fall to 6.7 per cent for the period of China’s Thirteenth Five-Year Plan (2016–2020).
The rapid expansion of China’s economy in the last three decades has incited varied responses: it puzzled the world for the first ten years, dazzled it for another ten, and is now largely taken for granted. Many people today believe that only China can pull the global economy from recession, and many seem to be counting the days until China’s GDP surpasses that of the US.
But the Chinese economy will inevitably slow down because the potential growth rate of an economy tends to decline as its GDP per capita increases — and this process is likely to accelerate as China’s population ages. The Chinese economy is like a plane in the sky; hard landing or soft landing, there has to be a landing. Gravity is the king.
However gloomy these predictions may seem, they are the best-case scenario for the future. As its growth rate slows, China will go from being an anxious middle-income country to a member of the high-income club. There is a sense that China will ‘grow out’ of challenges posed by an aging population, a widening income gap and a revolution of rising aspirations. In the future, China might change its priorities and be willing to exchange growth for stability.
There is, of course, no guarantee that this transition will be smooth. True, China’s healthy overall fiscal condition means the government can easily maintain a high growth rate. And with the deficit-to-GDP ratio targeted at 1.5 per cent this year, and the debt-to-GDP ratio at less than 20 per cent, building highways, high-speed railways, harbours and airports has proved the most convenient way of avoiding an economic slump. As a developing country, China still has a lot of investment opportunities, and that is why the government has taken to spending money as a means of solving economic woes. These magic tricks seem to have worked, at least until now.
The situation as it currently stands is unsustainable. Relying too much on quick fixes is likely to produce an inability to think beyond the short term, and thus create more problems in the long run. China’s high growth increasingly depends on public investment, and this public investment is heavily biased toward physical capital. As the government drafts the Thirteenth Five-Year Plan in the years to come, will there be enough investment projects in need of funding?
After the Asian financial crisis, there was a boom in highway building, and so China’s highway system jumped from 10,000 to 25,000 kilometres in three years. After the global financial crisis there was a ‘great leap forward’ in high-speed railway building. One of the numerous development projects of this period was undertaken on Hainan Island. Although often referred to as China’s Hawaii, Hainan is actually more like Florida — famous for its tropical sunshine and infamous for its property bubble. After the Asian financial crisis, the Hainan local government built a highway circling the island. After the global financial crisis, it built a high-speed railway side by side with the highway. What will Hainan build if another crisis strikes in the next five years: a second highway, another high-speed railway?
Between 2003 and 2007, China’s investment-to-GDP ratio was 42 per cent on average (the highest among the G20 countries), and its consumption-to-GDP ratio was 38 per cent on average (the second lowest among the G20 countries). The manufacturing sector’s share of GDP was 47 per cent on average, second only to Saudi Arabia. And the service sector’s share was 41 per cent, the third lowest following Indonesia and Saudi Arabia.
These figures show that even before the global financial crisis, imbalance was an established feature of the Chinese economy. This imbalance has become more pronounced in the years since the crisis; with China’s stimulus package announced in 2008 and an expansionary monetary policy introduced in 2009, more resources have been allocated to infrastructure building and heavy industry. Without a fundamental change in its development pattern, China will be further trapped in low consumption, high pollution and increasing social discontent.
And that is the worst-case scenario.
He Fan is Deputy Director at the Institute of World Economics and Politics, Chinese Academy of Social Sciences. He is also Deputy Director at the Research Center for International Finance, Chinese Academy of Social Sciences. East Asia Forum