China's year of the bull
Growth numbers are rosy and spending is up – but don't be fooled. The country is having a very peculiar kind of recovery
By Jonathan Fenby
The numbers appear to say it all: growth back to 7.1% after a hiccup around the turn of the year, with forecasts of 7.9% for the year as a whole. The Shanghai stock market index is booming. Property prices are recovering in major cities. There is no sign of the widespread labour unrest forecast at the start of 2009 as tens of millions of migrant workers lost their jobs. All in all, China is the hot investment tip. Though anybody with any sense would have got in months ago; confidence is being pumped up as fast as a weightlifter's muscles.
Well, yes. The summer economic data were bound to be sunny. After all, Beijing has not only pumped the equivalent of $580bn into a fiscal package concentrated on infrastructure, but has opened the bank lending taps to a degree that is still barely grasped – so far this year around $1tn has poured out in cheap credit, triple the figure for the same period of 2008. Exporting firms, from steel to textiles, have been showered with tax rebates. Huge railway projects have been launched. Subsidies have poured out for farmers and to encourage rural households to buy household appliances.
If all that did not produce an upturn in growth, something very strange would be happening. As a matter of fact, it is, but in a way that the bulls prefer to ignore. Despite the rise in GDP, tax receipts are falling (that can't be all the effect of the rebates). Despite the enormous injection of liquidity from bank loans, deflation has set in. Despite the availability of cheap money, household consumption is not growing much faster. Despite the reported increase in industrial production, imports, which go largely into goods finished on the mainland, are dropping. In other words, this is a peculiar kind of recovery.
It is, in part, a political phenomenon. Having adopted economic expansion and material betterment as its main reasons for legitimacy after Mao was shunted off to the mausoleum, the current leadership of party chief Hu Jintao and prime minister Wen Jiabao has to come up with the goods to show that their movement alone is fitted to run the world's most populous nation. On top of that, as will be evident at the US-China strategic dialogue this week, they are not averse to pointing out that China's system of state controls enabled it to avoid the financial crisis that gripped the west and that its pain is the result of the crash in its external markets (not the whole story but true enough to pass muster).
But it seems that, when it comes to the medium-term outlook, the leaders part company with the bulls who see 11% growth returning in 2010-11. Last week, the politburo took control of economic policy which had previously been left to the government. That is probably a sign of two linked factors – a feeling at the very top of the regime that the short-term measures undertaken by Wen and his ministers will not prove enough, and a realisation of the scale of the longer-term challenge facing China as it seeks to upgrade its industry and rebalance its economy for a more sustainable future.
The politburo decided to continue with the stimulus remedy, a sign that it believes not enough have been done despite the 7.1% growth number. Monetary policy is to be "moderately relaxed", which means keeping up the lending. Fear of escalating non-performing loans, a wash of liquidity and the build-up of inflationary pressures could count for little when a political leadership is committed to producing an 8% growth figure by the end of 2009.
The snag is that the medicine China is applying, while producing spectacular short-term results, pushes the country in the wrong direction. Nearly 90% of the 7.1% growth came from government investments and guaranteed cheap loans. Spending on railways more than doubled. Expenditure on roads and irrigation were up 50%. Overall, fixed asset investment in everything from power grids to residential property increased by 34% year-on-year.
Some of this is needed – the railways, for instance, were in dire need of new track and rolling stock, the power grid was in a bad way and poor irrigation is a major obstacle to making agriculture more efficient. But much of the money that has splurged out of the state banks this year has gone to state firms and provincial governments which are generally inefficient users of capital for both internal structural and political reasons. The hoped-for effect on employment has not been noticeable while small- and medium-sized firms, particularly in the private sector, complain that they are not getting much of the new cash. The state banking system has proved highly effective at getting money out of the door, but its ability to allocate capital efficiently is questionable, while anecdotal evidence tells of big state companies making a nice profit by lending on their cheap loans to smaller firms at jacked-up rates.
The numbers in the months ahead will undoubtedly remain strong. The top leadership has to perform. But the underlying stability of the recovery remains uncertain. So does the volatility shown by tens of thousands of mass protests each year and episodes like the revolt of steel workers in the north-east who beat a new manager to death after he announced that a take-over he was implementing would lead to big job losses.
China, to beat my old drum, is not going to collapse or implode. But it is at a crossroads in many senses. This includes the economy. The politicians in Beijing are, understandably, taking a short-term route and are being applauded for the inevitable results. But they are using old methods that do not offer the progress towards an economy which can really compete on terms others than those provided by cheap labour and capital. Hu Jintao laid out the road map in that direction 18 months ago, but that was before the knee-jerk reaction to the external events of 2009 and the internal imbalances which compounded their effect. As a result, looking beyond the end of this year, the outlook may not be quite what the bulls of 2009 anticipate. It's not exactly a false dawn, more a matter of sunny intervals in an uncertain sky.