The Fallacy of Chinese Growth
July 13, 2016 - David Buckham CEO of Monocle
When it was confirmed by Chinese authorities in the 3rd quarter of 2015 that growth had dipped below 7 percent, the equity markets reacted sharply and negatively. Economists explained that China is a significant driver of worldwide demand, particularly for commodity-based economies. The slowdown in demand would put the brakes on resources, justifying the greater than 50 percent declines in major commodity prices. Given, however, that a Chinese growth rate of 8 percent was previously considered to be miraculous, it seems counterintuitive that a 1 percent reduction would have had such a negative leverage effect.
The explanation has been centred on the veracity of the figures themselves. The argument goes: the Chinese stock markets are manipulated, from restrictions on selling, to extensive state-operated programs of forced share acquisitions. It does not then take a leap of the imagination to doubt the integrity of the official growth rate.
Of the major world economies China is the only economy withina political system that has remained utterly undemocratic. In terms of real measures of democracy, China remains no further advanced than it was in the days of Tiananmen Square. The Chinese state is renowned for its economic interventionism and for its restrictions of individual freedoms. This leads to anxiety, and therefore to increased volatility.
Opacity however is not a sufficiently satisfying argument, nor are excessive bad-debt levels. The rate of 6.7 percent that China is now growing at seems extraordinarily robust in comparison to any other of the major world economies. US growth sits at 2 percent, and the entire Euro area has slipped down to 1.5 percent. Why then would a delta of 1 percent from a high of 8 percent two years prior lead to such a significant decline in demand?
The answer lies in the make-up of Chinese growth. Of the three main sources of demand: the state, the consumer and business, China has an inordinate reliance on the state. In other major world economies the state constitutes a third of total demand. In China, state demand constitutes over 60 percent of GDP.
If one postulates that the Chinese government’s portion of overall GDP has continued to grow at previous rates, then one can ignore the 60percent portion of the 8 percent growth as state-driven – i.e. 5 percent of the rate itself. What remained then, as consumer and business demand in 2014, was a 3 percent growth rate.By this argument, assuming that 5 percent growth remains state spending, non-statedriven demand grew at a paltry 1.7 percent . That’s almost a 50 percent decline, and correlatesnicely to the declines in commodity prices.
There is an air of desperation when economists speak of the China effect. The Chinese economy is a miracle, goes the argument. China will now turn to its own consumers, selling goods to its newly-created middle class.This argument is naive and fallacious. It ignores the truth of the Chinese miracle: that at its centre there is no democracy. The Chinese system is sometimes referred to as a new form of capitalism – one that does not require democracy. On the contrary, it is only within a one-party state that such a high degree of government demand could possibly occur. In a true democracy there are opposing forces that necessarily debate their opposing agendas. This results in better investments, greater dependence on business, and more innovation.
The Chinese government is the main driver of its own growth. It forces non-profitable businesses to keep going by rolling debt. The state orchestrates mega-projects irrespective of consumer demand. The debt overhang will take a decade or more to unravel. The single-party state will endure longer. And many of its empty cities will remain just that, empty.
David Buckham, CEO of Monocle