Do We Really Need China’s Rapid Growth?

The mood at the World Economic Forum this week in Tianjin has been a study in contrasts — bullish foreigners and gloomy Chinese.

As the FT’s Jamil Anderlini reports:
    In quiet conversations and background chats with Chinese officials and analysts about the state of things in China, the tone of despondency and cynicism was pervasive while the views of international attendees on China were generally bullish and upbeat.

This divergence has almost certainly been going on for some time. Judging from the markets alone, the rest of the world cheers any signs of resurgent growth in China, or a stimulus package that might make such a thing happen. Meanwhile the authorities have been signalling their discomfort with the side effects of the 2008-2009 stimulus for well over a year now. The property bubble which the stimulus helped inflate has been a particular concern, with curbs targeted at dampening down speculation first being introduced in 2010.

The property bubble, along with the surge in infrastructure spending, has helped to further push China’s economy in an unusually unbalanced direction, in which the majority of GDP is made up of investment while consumption’s share of GDP is lower than that seen in just about any other country, ever.

This rarely seems to bother the pundits, strategists and investors who tend to see high GDP growth as a good thing, regardless of what that growth is composed of.

In fact, the Chinese authorities take the challenge of rebalancing far more seriously than do foreign investors, who tend to jump at any sign of stimulus even when it will clearly exacerbate the already extreme imbalance. Even in his big speech in Tianjin this week clearly promising action on growth, Premier Wen emphasised that point:
    Although growth is slowing down, it is more stable. We will give greater priority to stabilising and maintaining the continuity and stability of our policies.

Or as an editorial from Xinhua today, titled “Less speed, but no more stimulus” puts it:
    Many have expected the government to announce an aggressive plan, similar to the 4 trillion yuan ($632 billion) stimulus package issued in 2008, to keep the economy from stalling for a second time.
    The government has been cautious about making any bold moves. However, its hesitation should be seen as a pragmatic move, as authorities are aware of the limitations of a possible stimulus plan and do not want to upset the timing regarding the rebalancing of the economy.

There’s a tonne of other examples out there where Chinese leaders have talked about the need for rebalance, if you want to look for them.

Let’s also not forget that the central government lowered its own growth target this year to 7.5 per cent, after years at 8 per cent. But what about all this doubling-down on imbalance we’ve been pointing out over the past few months? The Chinese government is in a quandary because of the many powerful figures (not least within their own leadership) who have benefitted greatly from the imbalanced status quo. (More about this later.)

So why the obsession with GDP growth at double-digits, or close to double digits? Why has there been so much denial and disbelief that annual GDP growth might fall below 8 per cent, and perhaps more — and stay there for years?

In fact, why the obsession with GDP at all? It comes down, very broadly, to maintaining stability in undemocratic China: the bargain that there won’t be a widescale revolt against the authorities as long as enough people feel their wealth is growing. The magic growth rate below which unemployment and social unrest become problems is somewhere around 5 to 7 per cent, depending on whom you ask and what length of time you are talking about.

However Michael Pettis is not so sure. In his latest newsletter, he repeats his assertion that slower economic growth is absolutely necessary for China to rebalance its economy. Growing GDP at the same rate while increasing the consumption or household income share of GDP would require the latter to rise at a phenomenal rate.

It sounds dire to say that China’s growth has to slow and probably by several percentage points, as Pettis believes. But he points out the positive side of this: in order to rebalance, household income will have to grow faster than GDP. So even if GDP falls to 3 or 4 per cent — unimaginable to many — household income, says Pettis, would grow at 5 to 6 per cent a year in a rebalancing scenario.

As he explains:
    This, and not reported GDP, is what really matters. Chinese households, like those in the rest of the world, are not so much concerned with per capita GDP as with changes in their disposable household income and in their wealth. If China rebalances successfully there is no reason household income growth should collapse, even as GDP growth rates slow significantly. This is a big “if”, of course, and requires that Beijing understand the risks, and forces through what will be politically difficult measures, but so far it seems that they do.

What about the rest of the world, desperate for its “engine of global growth” to stay resiliant? Even that is overstated, says Pettis:
    Nor is rebalancing bad for the rest of the world (although as I wrote in the last issue of this newsletter copper, iron, and other hard commodity producers will suffer tremendously). The idea that China is the global engine of growth is based on confused arithmetic – it is simply the largest arithmetical component of global growth. What the world needs from China is not more growth. It needs more net demand, and a rebalancing China, even with much slower growth, will provide just that.

Not that rebalancing will be at all easy. Pettis argues there are three ways to do it:
    Revalue the renminbi (so that households aren’t penalised by expensive imports)
    Raise interest rates (this will make the cost of capital more expensive, hurting capital-intensive manufacturers, but help middle-class savers)
    Raise wages (this will hurt more labour-intensive manufacturers but will, obviously, help households, especially the poorer ones).
    Which path China chooses to follow should be seen by the world primarily as something that affects the way the costs and benefits of rebalancing are distributed domestically. For the sake of more sustainable and equitable long-term growth, and in the interests of economic efficiency, it is almost certainly much better for China and the world if Beijing raises interest rates than if it revalues the RMB, but since raising interest rates is likely to be opposed by the very powerful groups that benefit from excessively cheap capital, Beijing may instead put more focus on raising wages, which comes mainly at the detriment of economically efficient but politically weak small and medium enterprises and service industries.

Which should be reassuring for all those countries who feel miffed about cheap Chinese exports.