China’s economy is cooling partly due to new constraints and partly change of development strategy. The Covid-19 pandemic, Ukraine war and trade disputes with advanced nations including the US have imposed severe limitations to China’s growth journey.
According to a new forecast by Oxford Economics, China’s gross domestic product (GDP) will grow an average 4.5% over this decade. The Chinese zero-COVID policy led to a prolonged lockdown in Shanghai that paralyzed the world’s second-largest economy and hit global supply chains. This will force Chinese economy to take longer time than other Asian economies such as South Korea and Taiwan to catch up with living standards in the developed world.
China’s key financial hubs imposed a two-month lockdown from the end of March as authorities tried to contain soaring COVID-19 cases. The lockdown triggered a sharp drop in China’s economic growth over the April-June quarter. Despite an expected recovery in the second half of the year, economists believe the official target of around 5.5% will not be achievable in 2022.
In recent months, as major cities were placed on lockdown, China’s economy faced steep declines in GDP growth, as evidenced by 2.6 % decline in the second quarter of this year. This represented the slowest growth since the pandemic began. Production declined and logistics firms faced challenges in carrying out daily activities. In fact, a Hong Kong-based economist estimated that lockdowns cost China 3.1% of GDP per month, assuming the highest GDP contributing cities are under quarantine.
The demography of China has undergone structural change and it is also creating a demand-supply gap in labour market, marked by rising wages, eventually eroding China’s competitiveness. Further, due to increasing decoupling with the US and allies, mishandling of financial risks and prolonged real-estate slump, annual growth is likely to further slowdown to around 3% on an average between 2030-40 according to the Oxford Economics forecast. Other economists have also made similar projections, with Bloomberg Economics forecasting an average growth of 4.6% this decade for the Chinese economy.
Another reason for moderate growth is China’s deliberate shift to “quality growth” rather than “growth numbers”. Chinese policy makers have realised that previous decades’ break neck growth is not sustainable as it is more “inflated” or “fictional” as pointed out by Xi Jinping himself. For high quality growth China is trying to rebalance its economy across several dimensions, especially giving up the traditional play book of boosting growth through infrastructure and real estate investment, which according to the World Bank has run its course.
China’s real estate slump could have a big negative impact on growth for several years. The majority of China’s growth over the next decade will be driven by increasing the stock of physical capital and it may struggle to maintain its current high levels of physical investment due to rising debt levels. Instead, China now wants to pursue high quality growth through growth of consumption and services as well as business investment and exports for rising up the value chain.
It is now apparent that Xi Jinping, does not prioritize economic growth above social and political factors. Fast pace growth appears to have gone down on China’s agenda than it has been in several past decades. GDP growth under the new strategy will be reliant on investment in emerging technologies and enhancing productivity growth along with a strategy of dual circulation. China’s productivity growth has slowed but will remain high relative to other emerging economies. It would make efforts to enhance productivity by focussing on R&D and human capital formation.
However, trade and especially technological decoupling with China by the US and allies could cut 0.3-0.6 percentage point per year from growth by slowing productivity gains.
Another dampener to China’s growth is decline in the interest of investors. Foreign companies are slashing investment to lower levels and expecting lower revenue in short terms and medium terms due to the prospect of ongoing lockdowns, and some of them are looking to diversify production centres outside of China to other Asian nations. The aversion of investors is prompted by several factors such as lesser reliability of China-centric supply chains as witnessed during the Covid-19 pandemic, forced technology transfer, poor labour standards and human rights violation apart from its skewed energy metrics dominated by carbon emitting coal, to name a few.
One survey reported that almost 60 percent of European businesses stated they were cutting revenue projections for 2022, which does not bode well for China’s attractiveness to overseas firms. China which once opened up special economic zones to produce goods mainly for export and created a unique environment catering to hosting foreign businesses is becoming ever less important to Beijing. Now China is reportedly trying to develop high-tech parks instead.
Thus, cooling down is a compulsion as well as choice for Chinese policy makers. China is trying to enter into a new era of growth marked by quality growth and not double digit growth. It is facing new challenges from within and without. So it may take more time to realise the goal of becoming a high income country as observed by the Oxford Economics report. The high-paced growth era is coming to an end in China, but the question now is that could China easily transition to high quality growth path. The answer is neither easy nor clear. One thing, nevertheless is sure, i.e., old habits die hard.