China, known as the “world’s factory,” has long been a source of cheap goods for global markets. However, the nation is currently facing a complex set of challenges that could potentially lead to economic troubles beyond its borders. The country’s economy, which had been growing steadily, is now grappling with a range of issues, from a real estate crisis to high youth unemployment rates. These problems could result in deflation and sluggish growth, impacting both China and the global economy.
China’s economic struggles are multifaceted. The property market, a key driver of growth, is in turmoil due to overdevelopment, leading to a crisis that local governments are struggling to manage. The unemployment rate among the younger generation has reached alarming levels, hovering at around 21.3%, according to official figures, and potentially even higher according to third-party estimates. This presents a concerning social and economic challenge.
Adding to these domestic concerns are rising tensions between China and Western nations, which could lead to reduced trade and investment ties. This “economic decoupling” could further hinder China’s export-led growth strategy. If the nation’s economic problems persist, they could have far-reaching implications, possibly spreading beyond its borders. For instance, China’s recent struggles with deflation, as seen in a 0.3% drop in consumer prices in July, could potentially affect the global economy.
Brendan McKenna, an economist at Wells Fargo, is wary of the possibility that China’s economic issues might spread globally. The deflationary pressures stemming from China’s economic woes could have a ripple effect on other economies, including the United States. McKenna suggests that the risk of deflation might even be more concerning than elevated inflation.
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One way in which China could export deflation is through its influence on global commodity prices. As a major consumer of commodities like iron ore and steel, China’s economic slowdown could cause global prices to decline. Furthermore, with reduced domestic sales, Chinese manufacturers might resort to cutting prices, leading to more cheap goods flooding international markets.
China’s economic struggles could mark a significant shift in its growth trajectory. In the past, the nation’s rapid growth played a vital role in driving global economic expansion. However, the current challenges it faces could lead to a slower GDP growth rate. Since China currently contributes around 35% of global GDP growth, this shift could have substantial implications for the worldwide economy.
From an average annual global economic growth rate of about 3.5% from 1980 to the present day, McKenna speculates that a “new normal” might emerge, with growth rates closer to 2.5% in the coming years. This downward trend could be primarily attributed to China’s slowdown.
China’s economic struggles in 2023 were unexpected, as many experts anticipated a robust recovery after COVID-19 lockdowns were lifted. However, the reality has been different, with muted economic progress. This situation has led some to draw comparisons to Japan’s “lost decade” in the 1990s, characterized by sluggish growth.
Several factors contribute to China’s current economic downturn. An aging population, mounting debts, and a troubled property market have combined to create a balance sheet recession. This phenomenon involves consumers and businesses prioritizing savings and debt repayment over spending or investment. China’s GDP growth rate reflects this trend, with a mere 0.8% quarter-over-quarter growth in the second quarter, down from 2.2% in the previous quarter.
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China’s transition from a manufacturing-driven economy to one centered around consumption has also presented challenges. A phenomenon known as “consumption downgrading” is occurring, wherein consumers and businesses become more price-conscious and selective in their purchases.
In addition to these challenges, local government debts have soared, and the property market is suffering from overbuilding, resulting in a surplus of unoccupied residential units. Major property developers like Country Garden and Evergrande are facing financial troubles, impacting the broader economy.
China’s economic struggles have led to a crisis of confidence, particularly affecting consumer sentiment. This weakening confidence has contributed to deflationary pressures, which further exacerbates the economic challenges.
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While some analysts speculate that China’s deflation could temporarily help slow U.S. inflation and prompt a pause in aggressive interest rate hikes, the long-term consequences of deflation can be dire. It can initiate a vicious cycle where falling prices lead to reduced consumer spending, causing businesses to cut back, leading to layoffs and reduced investments. In essence, deflating economies often contract.
Brendan McKenna clarifies that a full-blown economic crisis with ongoing deflation in China is not his primary prediction. However, it remains a possible tail risk that could impact the global economy.
China’s economic trajectory has shifted over the years, from its early days of rapid growth after market reforms in 1978 to its current challenges. Critics have long questioned the sustainability of its export-focused expansion, and the imbalances created by such a model are now coming to the forefront. The overemphasis on manufacturing and construction without adequate support for consumer demand has led to structural issues.
China’s economic challenges also have implications for the U.S. and other countries. The interconnectedness of global economies means that a slowdown in China could lead to lower GDP growth rates in the U.S., particularly as emerging Southeast Asian economies are highly dependent on Chinese trade and investment.
However, forecasting China’s future economic growth is no easy task. Several factors complicate predictions. Beijing’s reduced transparency in terms of economic data and the crackdown on international firms make it challenging to gauge the true health of the Chinese economy. Additionally, the evolving landscape of U.S.-China relations and the potential for a decoupling of the two economies further muddle the picture.
Amid these uncertainties, some experts argue that a China-driven crisis might not necessarily lead to a global event on the scale of the 2008 financial crisis. While China’s debt situation is a concern, the majority of it is held by the national government, providing some flexibility in addressing the issue. Moreover, the ties between China and the U.S. are not as strong as they once were, potentially mitigating the impact of a Chinese recession on the U.S.
In conclusion, China’s current economic struggles, including a real estate crisis and high youth unemployment rates, could have far-reaching implications for the global economy. The nation’s role as a major consumer of commodities and its potential to export deflation could contribute to economic challenges beyond its borders. The possibility of a “new normal” of slower global growth is on the horizon, driven by China’s changing economic trajectory. However, predicting the exact course of China’s economic future remains complex and uncertain due to various factors, including reduced transparency and evolving geopolitical dynamics.
