3 Reasons Why a Chinese Slowdown Is Imminent

Mar.11.11 | About: iShares China (FXI)

I’ve spent quite a bit of time here discussing the excesses in China and the extraordinarily flawed monetary policy that China has maintained over the last few years. In a recent piece, Barry Eichengren of UC Berkeley succinctly expanded on this theme and concluded that a Chinese slow-down is “imminent.” Eichengren says there are three primary reasons why we should expect a slow-down:

  1. “Slowdowns are also more likely in countries where the manufacturing sector’s share of employment exceeds 20%, since it then becomes necessary to shift workers into services, where productivity growth is slower. This, too, is now China’s situation, reflecting past success in expanding its manufacturing base.”
  2. “Most strikingly, slowdowns come earlier in economies with undervalued currencies. One reason is that countries relying on undervalued exchange rates are more vulnerable to external shocks. Moreover, while currency undervaluation may work well as a mechanism for boosting growth in the early stages of development, when a country relies on shifting its labor force from agriculture to assembly-based manufacturing, it may work less well later, when growth becomes more innovation-intensive.”
  3. “Finally, maintenance of an undervalued currency may cause imbalances and excesses in export-oriented manufacturing to build up, as happened in Korea in the 1990’s, and through that channel make a growth deceleration more likely.”

I think this is pretty accurate. China’s inflation issues are largely a direct result of its high growth and flawed fiscal and monetary policies. Its western textbooks have taught it that rate hikes or other measures will contain inflation, but history is not on its side. The primary cause of lower inflation is recession. As Eichengren says, it’s not a matter of if, but when:

For all these reasons, a significant slowdown in Chinese growth is imminent. The question is whether the world is ready, and whether other countries following in China’s footsteps will step up and provide the world with the economic dynamism for which we have come to depend on the People’s Republic.