The debate over China’s growth trajectory – and whether a slowdown is on the cards – is heating up. Speaking at a press conference in Washington, Chinese finance minister Lou Jiwei said that a GDP growth rate of 6.5 percent wouldn’t be a “big problem“. Many have interpreted this as an indication of the new leadership’s commitment to reform and economic rebalancing, with less reliance on investment – and more reliance on consumption – to drive growth. According to Bloomberg,
The slowdown is “necessary” to achieve a structural transition, Lou said, adding that the government is deepening reforms in areas including public financing and financial services to achieve more sustainable growth.
The latest economic indicators coming out of China last week confirm slower than expected growth, with exports and imports declining in June (3.1 and 0.7 percent respectively). This comes on the heels of a number downgrades in growth expectations by foreign financial institutions in recent months, with Goldman Sachs most recently reducing their annual estimate from 7.8 to 7.5 percent. While the growth numbers keep surprising consensus on the downside, Michael Pettis makes the important observation that
…to anyone who understands the way China’s growth model works and who knows the historical precedents, this should in no way surprise. I don’t think China is yet heading towards an economic crash, but I do think that even current growth rates are too high, and sell-side researchers and the various official entities in China and abroad will continue, as they have in the past, to revise their growth numbers downward almost on a quarterly basis.
The slowdown in recent months has been followed by pronouncements from many analysts that a stimulative policy response should be pursued by the Chinese authorities in order to boost growth. This contention is problematic for a number of reasons. As Beijing University economist Michael Pettis explains, while highlighting the extent to which many policymakers misunderstand Chinese economic fundamentals,
There are still bulls out there who insist that China is out of the woods and making a strong recovery, for example former Deputy Governor of the Reserve Bank of Australia, Stephen Grenville, who argues in his article (strangely titled “China doomsayers run out of arguments”):
The missing element from the low growth narrative is that unemployment would rise, provoking a stimulatory policy response. China would extend the transition and put up with low-return investment (recall that when unemployment was the issue, Keynes was prepared to put people to work digging holes and filling them in) rather than have unemployment rise sharply. To be convincing, the low-growth scenario needs to explain why this policy response will not be effective.
It seems to me that the reason why simply “provoking a stimulatory policy response” won’t help China has been explained many times, even recently by former China bulls. Of course more stimulus will indeed cause GDP growth to pick up, as Grenville notes, but it will do so by exacerbating the gap between the growth in debt and the growth inn debt-servicing capacity. Because too much debt and a huge amount of overvalued assets is precisely the problem facing China, it is hard to believe that spending more borrowed money on increasing already excessive capacity can possibly be a useful resolution of slower Chinese growth.
For a longer treatment of the debate over the desirability of stimulus, see HERE.
(Wikimedia Commons image courtesy of chensiyuan)