The Danger to China’s Economy
Image Credit: Flickr / Trix are for Kids

The Danger to China’s Economy


While the United States, Europe and Japan remain mired in sluggish recovery, China's economy has continued to boom. But serious questions are now surfacing about China’s own state-led economic management. Massive overcapacity in infrastructure, stubbornly high inflation and a pile of potentially bad bank loans are undermining historic economic reforms only half completed.

Chinese planners face a serious dilemma – should they continue with investment-led growth, or finally focus on building a robust middle class, a policy nearly a decade overdue. Either choice will have global implications.

Staying the course with investment focusing heavily on construction has starved other parts of the economy, costing the average Chinese citizen dearly. Forced relocation, runaway environmental degradation, and cash-strapped social programmes like education, healthcare, and social security systems have been tolerated for questionable projects, many with little practical use.

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Entrepreneurial and middle-income business development, meanwhile, remains starved of resources, limiting domestic consumption. The public at large heavily finances the state-centric investment model with their interest losing bank deposits (yields below inflation) which are then lent out to state-owned enterprises at preferential rates. The net effect: a wealth gap widening into a chasm – and increasing government concerns over social stability.

Construction continues to play an oversized role in China’s economic expansion largely because it worked so well in the past. Twenty-five years ago Shenzhen was largely empty land. Now, the southern industrial powerhouse has a population of ten million. Massive building projects also offer a short-term fix by buffering against the loss of exports. Low-skilled workers remain employed in building projects, while favoured industries continue churning out cement, glass and steel.

The result, intended or otherwise, has been overcapacity on a scale never seen before, including vacant apartment towers, office buildings and shopping centres. The Mall of China, one of the world's largest, remains empty along with many other commercial projects from Inner Mongolia to purpose-built port cities outside of Shanghai. Despite trends in rural to urban migration, most in the struggling middle still can’t afford luxury apartments, villas, or high-end goods now widely available in first and second tier cities.

The lift that keeps the ‘build-it-and-they-will-come’ model going – largely policy inertia tied to a massive stimulus plan and tight relationships between banks, state-owned companies, and local governments – can’t defy economic gravity forever.

Warning signs have been evident for some time. Back in late 2009, Wang Shi, Chairman of one of China's largest development companies, China Vanke, warned that a significant bubble was forming. In August 2010, officials in Beijing's largest commercial district, Chaoyang, released figures showing half of vacant real estate had been empty for at least 3 years.

Domestic investor sentiment in the sector has dimmed as well. Along with the sideways drift of the Shanghai and Shenzhen markets over the past year, many of China's largest real estate development companies and banks have seen share values lose momentum or fall.

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