CHINA RISKS CEMENTING ITS STRUCTURAL FLAWS / THE FINANCIAL TIMES EDITORIAL

China risks cementing its structural flaws

An over-reliance on state investment persists

The editorial board 

Beijing’s intervention has often involved funding projects, notably in the construction sphere, that can have little economic purpose other than to spur demand © Qilai Shen/Bloomberg

There is much to admire in China’s recovery. Between the second and third quarters, its economy expanded by 4.9 per cent. It is unique among the world’s largest economies in that the IMF expects it to avoid a contraction this year. That owes much to Beijing’s success in stamping out Covid-19, along with the country’s manufacturing prowess. Yet, digging into the numbers, the picture is not quite as rosy as it may seem.

Long before the pandemic, the world’s second-largest economy looked dangerously unbalanced. Beijing has placed a tremendous amount of focus on the headline gross domestic product figure as a measure of its economic prowess. A consequence has been that, when growth has been at risk of falling to levels deemed by the Chinese Communist party to be too low, the state has engaged in aggressive intervention.

That intervention has often involved funding projects, notably in the construction sphere, that can have little economic purpose other than to spur demand. It has also led to levels of investment of state-owned enterprises far exceeding the contribution made by the private sector.

Debts by public municipalities ballooned in the aftermath of the 2008 financial crisis. Amid the pandemic, this appears to have happened again. In the first nine months of the year, fixed asset investment by companies not owned by the Chinese state was down 1.5 per cent from a year earlier. For state-owned enterprises it was up 4 per cent in the same period. China commentators have frequently warned that over investment in areas such as real estate was leading to a vast pile-up of probably bad loans.

There are several reasons to think this imbalance between private and public investment — and the resultant threat to long-term growth — could worsen. China has responded to the pandemic by closing its borders to an extent that it is now nigh-on impossible for foreigners to gain access to it. If representatives of businesses from places such as Germany are no longer able to visit, one would expect to see a drop in inward investment as a result. Geopolitical tensions between China and its trading partners are also having an impact. The friction is not only with the US. The Japanese government has said it will pay companies to stop using Chinese factories. South Korea has adopted a similar strategy.

China has sought to rectify this global retrenchment through a model which President Xi Jinping has dubbed “dual circulation”. The idea formalises a long-touted push to provide more growth through domestic demand, allowing the economy to survive a decoupling from the rest of the world by consuming more of its own produce itself.

There are signs that domestic demand is faring better. Imports surged to their highest level so far this year in September. Retail sales have also recovered — though at a slower pace than overall GDP. Yet household consumption makes up less than 40 per cent of output here, compared with about 65 per cent to 70 per cent in most advanced economies.

China’s return to growth is the one real bright spot in a dismal global outlook. Its resurgence has helped provide impetus for strong export figures elsewhere too, notably in Europe. It is in no one’s interest for it to falter at a time when second waves in caseloads are threatening to trigger double-dip recessions in other advanced economies. 

However, without a revival in private investment, there is a risk that any boost in the coming quarters will rely too heavily on factors that in the long term threaten to do more harm than good.