The Coming Crisis: Is the long-predicted crisis in China finally coming?

A gathering storm is visible on the Chinese horizon, yet the country seems better prepared to ride it out than many predict.

Matthew BishopChina has apparently been on the cusp of a crisis for decades. In the 1990s, as industrialisation gathered momentum, neoliberal economists regularly advocated ‘shock therapy’ of the kind undertaken disastrously by Russia as a way of staving it off. In the 2000s, Western observers banged on about the assumed incompatibility between authoritarian government and market reform.

China came through the 2007-08 global financial crisis relatively unscathed, but in 2016 is widely predicted to be the driving factor behind a future crisis and global slowdown. Whether the current predicted crisis will materialise remains to be seen, however the fact that past-predicted crises never came should not surprise us.  The overwhelmingly ideological criticisms levelled at the Chinese model of political economy over the years have been predicated on stylised assumptions about what constitutes a ‘market’ or a ‘democracy’ distilled from often-misguided interpretations of the supposedly superior Western experience.

They have also always been completely and utterly wrong.

Indeed, it is hard to overstate just how astonishing China’s transformation has been. In 1990 GDP per capita was around $300 USD, on a par with the poorest African countries.  Today, it is rapidly approaching $8,000 and projected to reach $11,500 by 2020, higher than all of the other ‘BRICS’.  These are staggering figures, particularly so in a country with a population of 1.3 billion, where tens (even hundreds) of millions still eke out a subsistence living in the countryside.  In the major metropolitan regions, average incomes now hover around $20,000, and with the Renminbi long undervalued, in purchasing power parity (PPP) terms the Chinese are wealthier than we realise.  The economy may even already be larger than that of the US on a PPP basis.

I first went to China in 2007, and returned in 2015 to spend a month at Wuhan University. I was stunned by what I witnessed.  During those eight years, the economy has doubled in size, and you sensed the pace of change viscerally: in the infrastructure, the temples to consumerism, the confidence of the young people – who now all seem to speak perfect English – and, of course, the horrific pollution.  In Wuhan, two dazzling new metro lines were open when I arrived; four when I left; three more will open by late 2017; and five more are planned!  Similar processes are being replicated in dozens of huge cities simultaneously: comprehending the scale of transformation is akin to imagining the boundaries of outer space.  What appeared a country in transition a decade ago, today feels like one that is beyond ‘developed’.  In barely 35 years it has achieved what took Britain 200.

Nonetheless, the political and economic crisis drumbeat is growing again. Sinologist David Shambaugh has spoken of the ‘endgame of Chinese Communist rule’ predicated, in part, by elite responses to President Xi’s massive anti-corruption drive. Others have asked whether China faces a ‘hard landing’ or simply a ‘bumpy’ one.

So, are things really different this time?

The challenges are undeniably acute. There are evident financial jitters: public and private debt has soared from 148 to at least 249 per cent of GDP over the past decade, growth has slowed, and domestic markets are feeling the effects of asset bubbles blown up by Western policymakers. Some economists believe China may be reaching Arthur Lewis’s ‘Turning Point’ when the glut of rural labour dries up as urbanisation peaks, putting upward pressure on wages, thereby dramatically reducing export competitiveness.  This impacts directly on the imperative of economic rebalancing: China needs to move away from investment- and export-led growth and towards greater domestic consumption, something that presages large-scale dislocation, particularly if it coincides with Renminbi appreciation, a process with which it is inextricably linked. However this is occurring at the exact moment when China is struggling with massive industrial oversupply – both cause and effect of the almost self-perpetuating export-led model – and something most obviously reflected in the travails of the steel industry. Underpinning all of these difficulties are the wider environmental consequences of rapid development.

Moreover, many worry – like Shambaugh – that the inevitable slowdown may precipitate resistance to further economic reform and encourage the Communist Party to harden its grip, rendering a full-blown crisis of the state the sole opportunity for catharsis. This is a troubling panorama: although the doom-mongers have been wrong before, they might not be today.

That said, critical Western portrayals of contemporary China are frequently ‘ill-informed’ and laced with a little too much Schadenfreude for my taste.  Past success offers no guarantee of future trajectory, but an alternative view might nevertheless be more sanguine.  Growth is lower but remains around 7 per cent, far outpacing any European country.  The government holds foreign assets worth half of GDP, and more foreign currency than the other BRICS combined. Household debt remains low, and central government debt is only around 40 per cent of GDP, although provincial authorities are carrying more, and grands projets such as high-speed rail are accumulating hundreds of billions annually. Much of this leverage is the result of enormous stimulus into the economy since 2008.  This has inevitably precipitated real estate and asset bubbles, and intrinsically renders deleveraging, and therefore rebalancing, difficult.

Yet in contrast to post-crisis stimuli elsewhere, China has invested massively in real infrastructure, which in turn underpins real future growth. In barely a decade, it has laid 19,000km of high-speed railway, considerably more than the rest of the world, ever. What may appear today overleveraged oversupply, may not tomorrow.  As Barry Naughton has put it: ‘project after project that seemed at inception to be superfluous and wasteful now hums along as part of China’s booming economy’.  People in provincial cities can now travel to Shanghai or Beijing in five or six hours; previously it took a day.  This promotes new economic activity in an ever-modernising economy.

The overarching picture, then, is mixed. China certainly faces challenges, but appears well placed to ride out the storm.  Its firms and research institutions are filing patents at a staggering rate: this R&D is creating colossal industrial capacity at the innovation frontier, underpinning further growth, and shifting China’s broader development patterns as it rapidly ascends global value chains. It may export less in tandem with rebalancing, but what it does export – e.g. green technology or high-speed rail systems – will be far more valuable than the textiles or manufactures it exported previously, and paid for by others with loans from Chinese banks. Even if the growth rate drops to 5 per cent, this would still imply a further doubling of the economy before 2030.

Politics in China is also frequently misunderstood. There is great public satisfaction at Xi’s anti-corruption efforts and attacks on vested interests, and it is far from a tottering kleptocracy. As Naughton has noted, the slowing of reform should perhaps be viewed as the institutional maturation of a political and economic system that is considerably more rational, predictable and meritocratic than is recognised outside. CCP cadres endure years of ferocious competition to make it into senior bureaucratic ranks, and when they arrive they govern pragmatically.  As a Chinese friend gleefully suggested ‘there is absolutely no way that someone of Donald Trump’s calibre could make it to the top of our system!’

China seems to me a country sui generis.  The apparent success of what Kishore Mahbubani calls the ‘Deng Xiaoping-Lee Kuan Yew consensus on national development’ consequently challenges existing ways of thinking about politics, democracy, states and markets. This success raises questions for so-called ‘developed’ countries, and may force us to reconsider how we understand and predict crises – coming or not.

The Coming Crisis SPERI blog series: In next week’s blog – published on May 11th – Jonathan Perraton looks at secular stagnation. Read all of the blogs in the series so far – http://speri.dept.shef.ac.uk/tag/the-coming-crisis/