China’s Economic Growth is On-Target Despite Challenges

The IMF World Economic Outlook recently released a projection of China’s economic growth of 4.6 percent and 4.1 percent for this year and next.

In 2023, after the economic reopening with the end of the “Covid-zero” policy, the rate was 5.2 percent, above the official target of five (Figure 1).

This year, the official target has again been set at five percent. The challenges approached here notwithstanding, the macro-economic performance in the first quarter of 2024 has been in sync with such a target.

Six challenges can be identified for China’s economic growth.

“Two reforms would have a strong effect on growth. First, reinforce social protection in order to convince Chinese people to save less. Then resume the proposal made by Hu Jintao in 2011 – left aside by Xi Jinping – to rebalance public and private companies, with a gain in productivity.”

First, the exhaustion of the real estate sector, after having reached a quarter of the country’s GDP. The restrictions placed in 2021 on developers’ access to cheap credit, due to concerns about the real estate bubble, cut the boom, but also exposed the fragility of developers’ assets, as seen in the case of Evergrande. Since then, there has been a sharp drop in home sales, new construction, and investment (figure 2).

The debt of local governments is another problem, because revenues from the sale of land to developers have shrunk. The degree of exposure of Chinese banks to both, with possible consequences in terms of loan losses, could negatively affect the supply of credit.

A problem with domestic demand by families represents a third challenge for growth. Chinese families took on heavy debt to buy real estate during the boom, and spending cuts accompanied the turbulence. Even though it increased last year, consumption remains on a trajectory below that before the pandemic (figure 3, left side). Measures of consumer confidence point to this.

Private investments for the domestic market, as well as hiring, accompanied this retraction. While investment in manufacturing kept pace, it slowed in real estate and infrastructure (Figure 3, right side).

A fourth challenge lies in external resistance to such an increase in exports as an alternative, given that they now face geopolitical rivalry, especially in the US. Much talk has been given to a “second shock” in terms of Chinese exports, particularly because of the size of the figures.

The Chinese lead in clean-energy tech has been accompanied by expansion in sales of electric cars (EVs). Chinese EV exports have surpassed Japan’s, and Chinese companies are seeking to strengthen positions abroad: BYD in Brazil, Hungary, and elsewhere.
But the risks of facing additional market access restrictions are high.

A fifth challenge concerns the radical change in the mood of foreign investors. Since the third quarter of 2023, China’s balance of payments has recorded a net outflow of almost $12bn in direct investment, due to asset sales or non-reinvestment of profits. Portfolio investments, shares and debt securities also changed signs.

The insufficiency of aggregate demand in China has been manifesting itself in the form of domestic deflation. Consumer prices have been stable or falling for months and companies have been reducing prices for more than a year (Figure 4 – left side). Idle capacity is high in many sectors, reflecting the excess investments relative to levels of demand (Figure 4 – right side).

Demography constitutes yet another challenge. The increase in the supply of workers accompanying rapid urbanisation has reached its limit. The ongoing population decline, with a growing share of the population out of the job market, means – as in many other parts of the world – the end of the demographic dividend (Figure 5).

The high youth unemployment rate provides a source of work to be employed, but this does not change the direction on the issue of the proportion of Chinese people of non-productive age.

To understand how the first four challenges intertwine, it’s worth going back to the beginning of the last decade.

In December 2011, then-president Hu Jintao made one of the first statements about the need for a “rebalancing” of the Chinese economy. There would have to be a gradual redirection towards a new growth pattern, no longer associated with investment rates close to 50 percent of GDP and with domestic consumption increasing in relation to investments and exports.

An effort would be needed to consolidate local insertion in the highest rungs of the added-value ladder in global value chains. Services should also increase their weight in GDP in relation to manufacturing. There would no longer be the double-digit GDP growth rates of previous decades, but it would no longer be unstable.

Given the low level of domestic consumption in GDP, and the dependence on investments and trade balances, the transition would run the risk of experiencing an abrupt drop in growth. To allay fears, waves of credit-driven over-investment in infrastructure and housing followed. A second round was implemented in 2015–2017 in response to a housing slowdown and stock market decline. In addition to the expansion policies adopted during the pandemic crisis in 2020, of course.

The decline in Chinese GDP growth rates was six percent in 2019. Now, however, the lever of over-investment in real estate and infrastructure is running out. Not only because of the debt levels, but also because returns in terms of GDP growth were declining.

Two reforms would have a strong effect on growth. First, reinforce social protection in order to convince Chinese people to save less. Then resume the proposal made by Hu Jintao in 2011 – left aside by Xi Jinping – to rebalance public and private companies, with a gain in productivity.

Such reforms do not seem to be on the front line. Despite the challenges, China’s economic growth path remained steady in the first quarter of the year. Exports, manufacturing investment and travel-related consumer spending compensated for the drag from the property sector (Figure 5), so far lifting the chances of achieving the target of “around five percent” GDP growth this year.

About the Author

Otaviano Canuto, based in Washington, D.C, is a former vice president and a former executive director at the World Bank, a former executive director at the International Monetary Fund, and a former vice president at the Inter-American Development Bank. He is also a former deputy minister for international affairs at Brazil’s Ministry of Finance and a former professor of economics at the University of São Paulo and the University of Campinas, Brazil. Currently, he is a senior fellow at the Policy Center for the New South, a professorial lecturer of international affairs at the Elliott School of International Affairs – George Washington University, a nonresident senior fellow at Brookings Institution, a professor affiliate at UM6P, and principal at Center for Macroeconomics and Development. Otaviano has been a regular columnist for CFI.co for the past 12 years. X: @ocanuto

Originally published at Policy Center for the New South.