As the fastest growing major economy
in the world, China is walking a shaky tightrope trying to balance economic
reform and growth. Its Gross Domestic Product (GDP) growth is down, flirting
with the "status quo," and barely keeping pace with population
growth. As the country continues to shift its economy from debt-driven
manufacturing to an economy driven by consumption, time continues to provide
headwinds.
Indeed, more time is needed to
convert China's reform scheme into policy. Moreover, as the government pulls
back on credit, it must avoid triggering a recession. As such, the Chinese
government faces many challenges to achieve economic growth, job creation and
income generation sufficient to fuel a consumption-based economy.
So, the question remains: Will China
keep its economy rolling?
For the first quarter of 2014,
China's economy expanded by 7.4 percent. While this is better than many
expected, it is a clear slowdown from the 7.7 percent growth experienced in the
fourth quarter of 2013. More notably, this is much lower than the 10+/- percent
growth rate the country has experienced over the past 10+ years. So, the
reduced GDP growth is cause for economists, analysts, business and investors to
take note.
In addition, recent data indicates
that China's manufacturing and industrial sectors are also weak. This
intensifies discomfort given that the Chinese economy has been historically
reliant, arguably overly reliant, on manufacturing and industrial sectors.
Given the size and scale of its
economy, China's growth is watched closely around the globe. It is watched even
more closely by regional economies likely to be impacted by a slowdown,
especially those that export commodities and industrial components to the
country.
China's planned reforms are far
reaching and have the potential to transform the economy. Intended to enhance
overall prosperity by boosting private consumption, making growth more
sustainable, implementation will be key. But, for now, the fallout is a slowing
economy.
While the near-term impact of a
temporarily slowing economy on the rest of Asia is expected to be minor, most
economies in the region are ultimately expecting to benefit from rising
consumption in China.
To negate the concerns of a
slowdown, and address economic imbalance, the Chinese government has enacted
measures to boost activity and give the economy a jolt. The government recently
announced a mini stimulus package, extending a tax break to small and
medium-size companies. The government also announced its ramp-up of spending on
its railway infrastructure.
Further, Mainland China took steps
to open up its capital markets, announcing a partnership with Hong Kong that
allows cross-border stock investments. This pilot program is scheduled to begin
in about six months. The government aim is to increase investments and trade to
boost manufacturing and industry, rounding out its domestic service sector.
While the government's reforms, set
in 2013, have boosted sentiment, progress on economic rebalancing remains
incomplete as investment, rather than consumption, continues to be the major
growth driver. However, there are mounting signs that consumption will play a
larger role in the economy and efforts to cool down credit growth, raise the
cost of capital, and dampen investment growth will continue. But, in the medium
term, anticipated productivity gains should boost growth, raising household
income.
As a result, private consumption (as
a share of GDP) would likely inch up, reaching nearly 37.5 percent of GDP, 4 percentage
points above the baseline, supporting domestic and external rebalancing and
making growth more sustainable.
The Chinese government is quick to
point out that the first-quarter's GDP growth rate was within its expected
range given its economic transformation efforts. China points to income as the
real measure of growth. In this view, rural income grew by 10.1 percent from a
year ago, while urban income increased 7.2 percent. This contributed to
increased retail sales, which grew by 12.2 percent, indicating growing
consumption.
And, to give credit where credit is
due, new loans fell 19 percent from a year ago, while money supply expanded at
the lowest pace on record indicating that the growth in retail sales was not
fueled by debt. This is certainly a good sign for China's reform agenda. So, by
China's income gauge, the economy is doing better, not worse than last year.
Still, there is no overlooking the
dampening industrial output at 8 percent, the slowest pace since the 2009
global recession. Moreover, the potential fallout from restrained credit and
higher cost of credit on real estate remains a reality.
Given that real estate represents
some 16 percent of China's economy, a crunch, reminiscent of Ireland and Spain,
would stress the banking system through higher credit losses. Similar
historical patterns across the globe make it clear that maintaining the balance
of credit availability and real estate activity will be difficult.
Going forward, GDP growth is
expected to slowly decelerate to a more sustainable 7.5 percent in 2014 and 7.3
percent in 2015. But China must create 7 million jobs a year to handle new
graduates and another 10 million to accommodate the migrants moving to cities
as part of the government's urbanization drive. As such the projected GDP rate
is just slightly more than required for China to maintain the current status
quo. Leaving China with the continuing challenge of developing its services
sector to create jobs and increase incomes. How China maintains the requisite
growth, with reduced credit and likely higher interest rates, while
implementing policy changes to reshape the economy for the long-term will
remain a closely watched balancing act.
So, while it's hard to foresee how
China will evolve economically in the near term, commitment to progress makes
the outlook for long-term growth very promising. Despite the challenges, many
companies are positioning to grow along with China.
