Achi news desk-
For over two decades, China’s extraordinary economic performance impressed and alarmed much of the world, including the United States, its main trading partner. But since 2019, China’s sluggish growth has led many observers to conclude that China has already peaked as an economic power. President Joe Biden said as much in his State of the Union address in March: “For years, I have heard many of my Republican and Democratic friends say that China is on the rise and America is lagging behind. They’ve got it back.”
Those who doubt that China’s rise will continue point to the country’s weak household spending, declining private investment, and entrenched deflation. Rather than overtake the United States, they argue, China would likely enter a long recession, perhaps even a lost decade.
But this dismissive view of the country underestimates the resilience of its economy. Yes, China faces several well-documented headwinds, including a slump in the housing market, US-imposed restrictions on access to some advanced technologies, and a shrinking working-age population. But China overcame even greater challenges when it embarked on a path of economic reform in the late 1970s. Although its growth has slowed in recent years, China is likely to expand at twice the rate of the United States in the coming years.
MISREAD THE DATA
Several misconceptions underlie pessimism about China’s economic potential. Take the common misconception that the growth of the Chinese economy in converging with the size of the US economy has slowed. It is true that between 2021 and 2023, China’s GDP has fallen from 76 percent of US GDP to 67 percent. Yet it is also true that by 2023, China’s GDP will be 20 percent greater than it had been in 2019, the eve of the global pandemic, while the United States is only 8 percent greater.
This apparent paradox can be explained by two factors. First, over the past few years, inflation has been lower in China than it has been in the United States. Last year, China’s nominal GDP grew by 4.6 percent, less than the 5.2 percent that its GDP grew in real terms. In contrast, due to high inflation, US nominal GDP in 2023 grew by 6.3 percent, while real GDP grew by only 2.5 percent.
Furthermore, the US Federal Reserve has raised interest rates by more than five percentage points since March 2022, from 0.25 percent to 5.5 percent, making dollar-denominated assets more attractive to global investors and boosting to the value of the dollar compared to alternative currencies. Meanwhile, China’s central bank cut its base interest rate from 3.70 percent to 3.45 percent. The widening gap between China and the US interest rates reversed what had been a large inflow of foreign capital into China, eventually devaluing the renminbi against the dollar by ten percent . Converting smaller nominal GDP into dollars at a weak exchange rate leads to a depreciation of China’s GDP when measured in dollars relative to US GDP.
But both of these factors are likely to be temporary. US interest rates are now declining relative to rates in China, reducing the incentive for investors to convert renminbi into dollar-denominated assets. As a result, the depreciation of the Chinese currency has begun to reverse. The International Monetary Fund predicts that Chinese prices will rise this year, which would boost China’s GDP measured in renminbi. Its nominal GDP measured in US dollars will almost certainly resume convergence towards that of the US this year and is likely to surpass it in about a decade.
A second misconception is that household income, spending, and consumer confidence in China are weak. The data do not support this view. Last year, real income per head rose by 6 per cent, more than double the growth rate in 2022, when the country was under lockdown, and consumption per head increased by nine per cent. If consumer confidence was weak, households would cut back on consumption, increasing their savings instead. But Chinese households did exactly the opposite last year: consumption grew more than income, which is only possible if households reduce the proportion of their income that goes into savings.
A third misconception is that price deflation has taken root in China, putting the country on the right track for recession. Yes, consumer prices rose by just 0.2 per cent last year, leading to fears that households would reduce consumption in anticipation of lower prices still – thereby reducing demand and slowing growth. This has not happened because core consumer prices (meaning those for goods and services other than food and energy) actually increased by 0.7 per cent.
Prices of equipment and raw materials used to produce other goods fell in 2023, reflecting global declines in the price of energy and other internationally traded goods as well as relatively weak demand in China for some industrial goods, which could undermine the stimulus for companies to invest in expanding their productive capacity. Rather than pumping money into their businesses, the thinking went, companies would use their reduced profits to pay down debt. But here, too, the very opposite came about: Chinese corporations increased borrowing, both in absolute terms and as a share of GDP. And investment increased in manufacturing, mining, utilities and services. No recession appears on the horizon.
Another misconception relates to the possibility of a fall in property investment. These fears are not entirely misplaced; they are supported by data on housing starts, the number of new buildings on which construction has started, which was half of what it was in 2021 in 2023. But you have to look at the context. In the same two-year period, real estate investment fell by just 20 percent, as developers allocated a larger portion of such spending to complete housing projects they had started in earlier years. Completions expanded to 7.8 billion square feet in 2023, eclipsing housing starts for the first time. It helped that government policy encouraged banks to lend specifically to near-completion housing projects; loosening such restrictions on bank lending to property developers in general would have exacerbated the property glut.
Finally, there is a misconception that Chinese entrepreneurs are discouraged and moving their money out of the country. The government crackdown that began in late 2020 on large private companies, especially Alibaba, undoubtedly did not help matters. From the start of economic reform in 1978 until the mid-2010s, private investment in China grew faster than investment by state-owned companies. By 2014, private investment was almost 60 per cent of all investment—up from almost zero per cent in 1978. As private investment was generally more productive than that made by state-owned companies, its growing share of total investment was essential to China’s rapid growth over this period. This trend reversed after 2014 when Xi Jinping aggressively redirected resources to the state sector, having taken only the top leadership position. The slowdown was modest at first, but by 2023, private investment was only 50 percent of total investment. Xi had undermined investor confidence; entrepreneurs no longer saw the government as a reliable steward of the economy. As long as Xi is in power, runs a common argument, entrepreneurs will continue to hold back on investing in China, choosing instead to channel their wealth out of the country.
But here again, the pessimism is not supported by the data. Firstly, almost all the decline in the private share of total investment after 2014 resulted from a correction in the property market, which is dominated by private companies. When real estate is excluded, private investment rose by almost ten percent in 2023. Although some prominent Chinese entrepreneurs have left the country, more than 30 million private companies remain and continue to invest. Furthermore, the number of family businesses, which are not officially classified as companies, expanded by 23 million in 2023, reaching a total of 124 million enterprises employing around 300 million people.
REAL CHALLENGES AHEAD
While China faces many problems, including those stemming from Xi’s efforts to gain more control over the economy, exaggerating these problems serves no one. It could even lead to complacency in the face of the real challenges that China presents to the West.
That is especially true of the United States. China is likely to continue to contribute around a third of the world’s economic growth while increasing its economic footprint, particularly in Asia. If US policymakers do not appreciate this, they are likely to overestimate their own ability to sustain deepening economic and security ties with Asian partners.
