China: A Surging Economy and Political Pitfall
May 12, 2010
China’s April economic statistics show rapid growth and increased inflation — and little sign that Beijing’s attempts to cool the economy are working yet.
China on May 11 released economic statistics for the month of April. The results show a continuation of rapid growth, with double-digit increases in exports, industrial production, retail sales and other categories compared to the same period in 2009. Inflation on both consumer and producer prices also rose.
The picture is not surprising, given China’s continuing stimulus efforts and the fact that the recent statistics are being compared to the low levels of economic activity in the first months of 2009. However, the statistics contradict the barrage of official Chinese commentary throughout April about the central government’s actions to cool down the economy due to fears of overheating after the first quarter showed gross domestic product grew at the rate of 11.9 percent. In other words, China’s attempts to cool the economy have only just begun.
As for inflation, April showed consumer price inflation reaching 2.8 percent over last April, higher than March’s 2.4 percent. Inflation expectations have become widespread after the vast expansion of China’s money supply due to rampant lending and robust investment during the economic recovery. The inflation rate is notable because it is above the one-year savings deposit rate, which is 2.25 percent — meaning citizens have more of an incentive to spend than to save, adding to inflationary pressures. But the April inflation rate remains below the official warning threshold of 3 percent, and well below the serious pain threshold of 5 percent.
Moreover, the headline consumer price inflation rate neglects the fact that, subtracting food, inflation is closer to 1 percent, which is far lower than any other comparable developing country. China has endemic low consumer inflation, and even deflationary tendencies, because of overcapacity and excess supply in its production of consumer goods. Therefore, despite the ceaseless official pronouncements, Beijing knows general consumer price inflation is not its chief problem.
The real problem is price inflation in food and housing, where price rises are particularly sharp and where common people are directly affected, potentially causing greater social dissatisfaction. Food inflation reached 5.9 percent in April, though it was driven considerably higher by a harsh and early winter that affected farm yields. Meanwhile, housing prices rose 12.8 percent from April 2009, higher than the price rises recorded in March. These April price rises flew in the face of the State Council’s heavily publicized measures that month to constrain prices. These measures were only announced halfway through the month, so their full effects cannot yet be determined. Early indications suggest sales are falling in some new hot real estate markets, and property developers are suffering on the stock markets, but the regulations are limited in the scope and variable in their application by local governments. Markets have not yet become convinced the government is aggressively tackling the real estate sector, and there are few alternatives for individual investors. Therefore, May will be more telling as to whether these measures will have the desired dampening effect on prices or whether the government will roll out further regulations.
The one area where China has succeeded in adjusting its policies in 2010 is in dialing back the surge in new lending that began in 2009 as a way of fending off recession, namely by raising reserve requirements for banks three times in recent months, requiring banks to raise new capital and forcing enhanced scrutiny of borrowers. So far, new lending has been cut by about one-third compared to the first four months of 2009. Nevertheless, new lending levels remain considerably higher than in pre-crisis years, and April witnessed a rise over the previous month’s lending (and even a rise over April 2009), showing the tendency to vacillate almost on a monthly basis.
Nearly half of Beijing’s 2010 lending target of 7.5 trillion yuan ($1 trillion) has already been disbursed. That, combined with the fact that local governments and state-owned enterprises will become more demanding as credit policy is tightened, means China may yet overshoot that target. Still, the reduction in new lending in the past few months (amounting to about $267 billion) is not a light achievement and — if it persists — will become a major contributing factor to Beijing’s attempts at economic cooling.
Trade is critical to China’s growth, and it continues to show recovery from the global recession. April’s exports grew 30 percent on the year, a growth rate comparable to the 2003-04 period. The continued rise of exports and an easing of imports led the trade balance in April to return to surplus following the rare deficit in March. Going forward, however, there are risks to exports, especially given ailing economies in the European Union, China’s biggest customer, and rising tensions with the United States over a range of policy disputes and protectionism. The persistent uncertainty for the export sector has made Beijing reluctant to phase out its stimulus policies or to undertake reforms (such as currency appreciation) to reduce inflationary pressures. This uncertainty becomes anxiety when Chinese leaders contemplate signs that the United States is becoming more aggressive in attempting to force a change on the currency front.
In sum, Beijing’s attempts to moderate its economic growth are in the earliest beginnings and have not yet had a deep effect. Leaders are being cautious because they are beset with risks both to external trade and to domestic growth should they tighten the rules on the financial and real estate sectors too abruptly, which could cause a hard-to-reverse slide. Moreover, there is a deepening anxiety over the fact that China’s 30-year economic boom is reaching a climax and that its imbalances cannot be corrected quickly enough to avert a major dislocation. Foreign markets are drying up, domestic consumption remains too underdeveloped to pick up the slack and the misallocation of resources associated with the state-dominated financial system has generated a hidden mass of bad loans, exacerbated by the recent lending spree.
With such a precarious balance to maintain on the economic front, Beijing has accelerated preparations to manage the domestic situation in the event that something goes wrong, primarily by centralizing control and strengthening security over everything from restive provinces and debt-laden local governments to corrupt officials and party members to political dissenters and Internet users. This centralization drive is progressing side-by-side with internal debates about economic policy, but is naturally meeting resistance from local governments that seek to maintain their perquisites and prerogatives. With China’s leadership scheduled to turn over in two years, there is no time for a major reform push — the current administration appears more likely to attempt to forestall disaster and leave the structural flaws for its successors to handle.
