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China is ageing. It’s median age at 38.4 is 12 years more than young India’s. As demography is destiny for large countries, China faces a major reckoning. An economic slowdown is inevitable. China cannot grow at 10% or even 8% anymore. Its supply of school/college educated workers is declining. This signals the end of the ‘Arthur Lewis phenomenon,’ which gave China an almost unlimited supply of industrial labour for three decades. For that long and golden period, real wages stayed low and mostly constant, industrial employment flourished, and the lion’s share of the gains of rapid growth mostly went to investment, undertaken by large state-owned enter-prises. Its investment-to-GDP ratio stayed very high, but the share of consumption stayed stuck below 40% of GDP, helped by wage and financial repression. China’s GDP has risen to five times that of India, but its consumer market is still relatively under-developed for its size. In contrast, India’s share of consumption is 65%. China’s past growth was investment and export driven. Whether future growth will be consumption driven is uncertain, but it will be much lower for sure, even as labour scarcity begins to bite and wages start rising faster. China will age before it can get as rich as the Japanese. But it might still escape the zero-growth trap that Japan is in.
China’s slowdown is aggravated by two other significant factors. The first is a fast-deteriorating debt condition. This has two components—local government debt and corporate debt, the latter particularly in the real estate sector. Evergrande, the world’s most indebted real estate firm, reported a loss of half a trillion yuan in 2021. Its near collapse sent shock waves well beyond China’s shores. It is estimated that 30% of China’s GDP is connected directly or indirectly with real estate. Since 2018, housing prices might have plummeted by 15%. The Evergrande crisis is replicated in other firms also, which means lower confidence, high investor anxiety and less construction activity. That, in turn, can impact employment generation in this sector. Various policy tweaks have still not restored confidence.
On the other side is ballooning debt on the books of local governments. A recent report by Victor Shih and Jonathan Elkobi, who analyse data on local bonds issued since 1997, reveals a staggering rise in the debts of local governments. Large parts of it is also off budget and hidden in opaque ways. Some provinces are finding their debt-servicing burden higher than their annual fiscal revenues. The problem is not uniform across provinces, but severe in some. Added to this is the risk in excessive shadow banking growth. So China’s debt problem has implications for growth as well as financial stability.
The second major factor affecting China is caused by the ‘China plus one’ syndrome. Ever since former US President Donald Trump decided to act harshly on trade, a stance continued by the Joe Biden administration, investors have sought to diversify beyond China. Supply chain disruptions during and after the covid pandemic led to increased ‘near-shoring’ and ‘friend shoring.’ The rush of FDI into China is waning, even as the stakes have risen in the tech-led cold war between US-led coalitions and China. The high-profile arrest of the chief finance officer of Huawei in Canada was just the tip of the iceberg in this cold war. The US seeks to severely restrict China’s access to semiconductors and high-tech intellectual property, which affects China’s progress in artificial intelligence and cyber warfare. For its part, China’s foreign policy is aggressively pursuing the control of critical minerals needed for chip-making.
China’s Belt and Road Initiative (BRI) is 10 years old now and represents its early attempt at finding an external solution to an anticipated domestic slowdown. It was like aiming for Keynesian-style global pump priming. Where would the funds for it come from? From Chinese loan diplomacy. Many infrastructure projects it sponsored involved usurious loans from Beijing and were supposed to help Chinese businesses. Over 60% of BRI borrowers are now in distress and looking for debt rejigs as their projects are stuck. In many African countries, the BRI debt-servicing burden has created resentment among locals.
In the meantime, China’s President Xi Jinping has launched three new global initiatives: its Global Development Initiative (announced at UN), Security Initiative and Civilizational Initiative. The first of these has already gained the support of 60 nations (like the BRI) and aims to accelerate the realization of UN sustainable development goals. Quite benign, it would seem. None of these initiatives is meant to be seen as hegemonic, but Western nations are unconvinced. The recent meeting in San Francisco between Presidents Biden and Xi was seen as aiming to reduce friction, and the Chinese were hoping to improve trade and political relations with the US.
China is clearly aiming for a global leadership image, styled as non-threatening and non-hegemonic. Whether this is motivated by internal weakness or a newfound confidence on the global stage is a matter of debate. For the West and India, disengaging from China is evidently quite a challenge, given our high critical-import dependence. Beijing has large holdings of Western debt, don’t forget. And as the Chinese domestic market is still growing, it remains attractive to businesses around the globe. The world must find a new way to engage and yet disengage with its second largest economy.
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