China’s doubling down on command-style economic governance as growth wanes

The big news this morning is the slowing growth in China. The third quarter numbers showed the country growing at its slowest pace in a decade. And the questions now are whether this slowdown continues and what China does about it.

This is important because a lot of the jitters we see in the stock markets worldwide are related to angst about a slowdown in China. The worry in particular is that, were the global economy outside of China to decelerate, there would be no Chinese safety net to help pick up the pieces as there was after the financial crisis.

The numbers

Here’s the breakdown of some of the problems behind the figures:

  • China released figures on Friday showing economic growth slowing to 6.5% on a year-over-year basis in the third quarter of 2018. That was below expectations of 6.6%. And given the lack of reliability of Chinese economic figures, the real number could be lower.
  • Industrial production for September only grew 5.8% on a year-over-year basis. That too missed expectations of 6% growth.
  • As a result, the Chinese currency, the Renminbi has weakened to near 7 yuan per dollar. That has it hovering near a 10-year low against the US dollar.
  • And the Chinese stock market is getting pummeled. Chinese stocks are now down 12 percent in October and 26 percent over the last 12 months.
  • Recently, Chinese consumers have said they are spending less. They are also downgrading  purchases and staying home instead of going out. However, retail sales for September were up 9.2% compared to the year ago level. And that’s actually above the expected 9% increase.
  • Recently, there has been news about angry Chinese homeowners protesting as the housing market undergoes some convulsions. Property accounts for 15% of Chinese GDP and is a pillar of growth for the economy.

What do the Chinese do?

The heady days when people thought China was reforming are well and truly over. There is no sign, for example, that the Chinese are liberalizing their currency regime. That was the premise for its being added to the IMF’s currency basket.

Instead, what we see is a shift toward a more command and control-style of operation, with greater emphasis on the heavily-indebted SOEs (state-owned enterprises). Here’s how Benn Steil put it recently:

“Deleveraging at State-Owned Enterprises,” said Chinese president Xi Jinping back in July 2017, “is of the utmost importance.”

Fast forward to today, and the sentiment rings hollow. With growth under threat from an escalating trade war initiated by the Trump Administration, Xi has shifted his chips. China’s strategy is now “socialism or bust.”

Instead of reducing SOE debt, the government has been boosting purchases from SOEs and stymieing private-sector competition to make that debt more manageable. The “focus is no longer on deleveraging,” explained Tsinghua University economist Zhu Ning, “but on transferring leverage from one sector to another”—that is, private to public.

Benn says this strategy may boost growth in the short-term, but undermines it in the long-term by reducing productivity and larding the economy with debt.

But isn’t this exactly what the Chinese did when the global economy ran aground a decade ago? They turned on the stimulus taps and effectively rescued the world economy.

Can they do it once more, if only to rescue their own economy? I think the answer is yes. However, when the global economy does fall into recession, I don’t believe the Chinese will have the resiliency to act as a safety net. So this is one prop of support which we now see being taken away.

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