Why China Struggles to Revive Its Troubled Economy

China's economy is grappling with a severe downturn, marked by a real estate crisis that has made consumers cautious and businesses hesitant. This economic malaise represents one of the most significant challenges China has faced since opening up to global markets over forty years ago.

  • Back in 2004, when China’s economic rise was becoming evident, researchers began asking citizens if they were financially better off than five years earlier.
  • The proportion of those feeling wealthier steadily increased, reaching a peak of 77 percent in 2014. However, recent surveys reveal a dramatic shift: only 39 percent felt better off last year.

The study, titled “Getting Ahead in Today’s China: From Optimism to Pessimism,” highlights the stark change in economic sentiment. The anticipated post-COVID economic rebound has been lackluster, falling short of expectations.

Debt, Debt And More Debt

A few years ago, Beijing aimed to reduce the economy’s reliance on a booming real estate sector, which had long been crucial to household savings, the banking industry, and local government finances. Yet, the property sector now faces a severe crisis, with numerous developers collapsing under massive debt, resulting in failed investments, unsold apartments, and lost jobs.

  • Chinese consumers, traditionally known for their high savings rates, have become even more cautious. Businesses that struggled through stringent COVID-19 restrictions have reduced salaries and hiring.
  • The job market for new college graduates is increasingly bleak, and China’s population has declined for two consecutive years. In a country accustomed to rapid economic growth and improving living standards, confidence is waning.

Consumer spending, a critical driver of economic growth, remains weak. Alibaba, China’s largest e-commerce firm, reported a 1 percent decline in domestic online sales for the spring season. Summer movie box office revenues have fallen nearly 50 percent from the previous year, and the U.S. Department of Agriculture predicts Chinese consumers will reduce pork purchases in favor of cheaper beef due to economic pressures.

Information Manipulation

Foreign companies that once flocked to China are now scaling back. Last month, Sephora, part of the French luxury group LVMH, announced job cuts due to the challenging market conditions. IBM is closing its two research and development centers in China.

  • Policymakers face a daunting task. The traditional remedy of borrowing for large-scale development projects, which fueled job creation and construction growth, has become unsustainable.
  • Local government debt has soared to over $7 trillion, and with investors already wary of China’s financial system, the era of excessive borrowing seems over.
  • The Chinese government’s response has included restricting access to economic data. Last year, it suspended the release of youth unemployment figures when they hit record highs, and later resumed reporting with a revised methodology to lower the figures.

The government has discouraged comparisons between China’s current economic troubles and Japan’s 1980s debt-fueled property bubble, which had long-term repercussions for Japan’s economy. Despite these efforts, China’s debt issue remains significant.

Rush To Safety

The collapse of the housing sector has had widespread consequences, but the risk of insolvency is somewhat mitigated by China’s tightly controlled financial system. Nonetheless, the government may find its ability to use fiscal resources to prevent further economic decline limited.

  • Economic uncertainty has led both Chinese savers and foreign investors to seek safer investment options. Real estate prices are falling, and Chinese stocks are underperforming compared to other major markets.
  • Foreign investors have begun to sell off Chinese equities, marking the first annual outflow in a decade. Approximately 180 Chinese companies have been removed from key stock market indices this year, reducing their global market presence.

Investors have shifted to China’s bond market, driving up prices and lowering yields. However, this has created potential risks, as drastically reduced yields might leave banks vulnerable if interest rates rise in the future. Additionally, Chinese investors are turning to gold, pushing prices to record highs.

Oversupply And Dumping

China has forecast a 5 percent growth rate for this year, higher than most major economies, though this prediction is now in question. A record surge in exports, including electric vehicles and household appliances, is contributing to growth.

  • However, this oversupply is eroding profitability in key high-tech industries and drawing criticism from trading partners.
  • Despite the challenging conditions, China’s official stance remains optimistic. An April opinion piece in state media dismissed concerns about short-term economic fluctuations, suggesting Western media exaggerated the challenges facing China’s economy.

Yet, fundamental issues persist. The job market is especially dire for young people. In July, the unemployment rate for 16- to 24-year-olds surpassed 17 percent, up from 13 percent in June.

Disclaimer

Please note that Benchmark does not produce investment advice in any form. Our articles are not research reports and are not intended to serve as the basis for any investment decision. All investments involve risk and the past performance of a security or financial product does not guarantee future returns. Investors have to conduct their own research before conducting any transaction. There is always the risk of losing parts or all of your money when you invest in securities or other financial products.

Credits

Photo by Nuno Alberto / Unsplash.