It would become one of the major drivers of the global economy in 2023: the reopening of China after a period of heavy corona restrictions in the country. The International Monetary Fund predicted in April this year that China would account for nearly 35 percent of global economic growth this year.
But that seems to turn out differently. Chinese economic growth is disappointing and Chinese state capitalism is showing signs of instability. The past week was full of worrying news: disappointing economic data, secrecy from the authorities, plus attempts by the Chinese central bank to keep the economy going and at the same time protect the price of the renminbi, the Chinese currency, from a fall.
To start with the central bank, unlike Western central banks, the People’s Bank of China is experiencing falling prices, not rising ones. In July, the Chinese price level fell by 0.3 percent compared to June. In itself, one month of low deflation is not a cause for concern, but the price falls come against a background of continued disappointing economic growth figures and are therefore seen as a sign of economic weakness. In the second quarter, Chinese GDP was 6.3 percent higher than one year previously. This growth is high by Western standards, but well below most economists’ expectations.
Chinese interest rates down
While the European Central Bank and the US Federal Reserve have been raising interest rates at breakneck speed, de Volksbank in Beijing is doing the opposite. To boost economic growth, the Chinese central bank cut interest rates for the second time in three months on Tuesday. Medium-term interest rates fell by 0.15 percentage point to 2.5 percent – a larger rate cut than widely expected. An understandable step, given a new series of disappointing economic data for the month of July that were also published on Tuesday. Growth in retail sales and industrial production fell back. With lower interest rates, consumers and businesses can borrow more cheaply, which should stimulate consumption and investment.
But interest rate cuts also have another effect: they depress the exchange rate of the currency. The exchange rate of the Chinese renminbi has been under heavy pressure for months now. The Chinese renminbi, also known as the yuan, is not a normal currency. It is hardly traded freely on the capital markets. The Chinese central bank determines the rate against other currencies by setting an upper limit and a lower limit.
Exchange rate under pressure
China is trying to give the renminbi a bigger role in international payments. It is therefore important that the exchange rate fluctuates freely as much as possible. On the other hand, too much of a fall in the renminbi will not be tolerated: it undermines China’s purchasing power.
Since the beginning of this year, the renminbi has fallen by more than 5 percent against the US dollar. De Volksbank felt things had gone too fast in recent days, so it increased the allowed bandwidth for the renminbi exchange rate on Friday, more drastically than analysts had expected. State-owned commercial banks were also instructed to buy up renminbi and sell US dollars. This halted the currency’s fall for the time being.
A debate has started among Western economists about what is going on with the Chinese economy
The strong US dollar is the mirror image of the weak renminbi. The US economy has been performing above expectations since the end of the pandemic and the US central bank keeps raising interest rates. This makes the dollar worth more against other currencies, including the Chinese renminbi.
What does not help confidence in the Chinese economy is the increasing secrecy about economic data. This week, the Chinese government announced that it would temporarily stop publishing figures on youth unemployment. It has risen sharply recently, from around 10 percent just before the pandemic to a record 21.3 percent in June.
Other Chinese economic news once again drew attention to a key driver of the sputtering economy: the troubled, debt-laden real estate sector. Chinese real estate company Evergrande, which has been in crisis since 2021, has filed for bankruptcy protection in the United States, according to court documents reviewed by international news agencies. The company borrowed a lot of money from state banks and speculated on the basis of local governments. Another real estate company, Country Garden, was unable to pay bondholders last week and appears to be on the verge of bankruptcy.
Read also: Will China recover economically? That is becoming increasingly questionable
What is going on?
A debate has started among Western economists about what is actually going on with the Chinese economy. Adam Posen, director of the authoritative think tank Peterson Institute for International Economics (PIIE) in Washington, recently published a controversial article in Foreign Affairs in which he argues that the Chinese authoritarian regime is ultimately incompatible with a healthy business climate. According to Michael Pettis, a professor at Peking University in Beijing, this is not correct. The Chinese economy would simply be out of balance. A lot has been invested for years, including in real estate, but domestic demand has remained low, says Pettis on X, formerly Twitter.