Soon on European roads: the ZEEKR. The electric car was designed in Europe, according to the site of the largely unknown car brand. But it is otherwise really Chinese: built in China by Geely, the manufacturer of the plug-in SUV Lynk & Co, which has quickly made its way onto the streets. Some more of those new Chinese brands: MG, Aiways, Nio and Xpeng. Earlier this year, thanks to China’s rapid advance in electromobility, the country overtook Japan as the world’s largest car exporter.
The success story stands in stark contrast to the gloomy, sometimes downright worrying reports of recent times about the state of China’s economy – the world’s second largest after the US. The Chinese economy is not doing what was widely expected, namely taking the global economy in tow after China released its draconian corona restrictions at the end of last year.
What will the world economy notice of the malaise in the People’s Republic?
First China itself. When the corona restrictions were lifted around the turn of last year, economists expected the same as what happened in Europe and the US from the summer of 2021: an explosion of economic activity, driven by the release of restrained consumption and entrepreneurial spirit.
Although China briefly showed the same characteristics at the beginning of this year, the mood among consumers and companies there turned sour surprisingly quickly. This week, a confidence index showed that sentiment is improving somewhat, but is still negative for the fifth consecutive month. In addition, the mood in the services sector is now also falling and is on the way to turning negative. It can also be seen in stock prices. So far in the US they are 23 percent higher than at the beginning of this year and in the eurozone they rose by 13 percent. Chinese shares, on the other hand, are 7 percent lower.
The real estate and infrastructure industries, which have been the biggest drivers of the economy in recent decades, are in crisis: huge real estate corporations Evergrande and Country Garden are reeling – the latter this week reported a record $6.7 billion loss on the first half of the year.
As a result, China has a growing problem with domestic consumption. Consumers are hesitant. Due to the onset of deflation (prices fell by 0.3 percent on an annual basis in July), they can postpone their spending, because everything can be even cheaper tomorrow. And they tend to save more now that home prices are falling. Investments, which are largely driven by the construction sector, are under strong pressure. Youth unemployment peaked above 20 percent in June before the publication of this figure was suddenly stopped.
Read also: Afraid of private companies, afraid of its own citizens: Is control for Xi over Chinese growth?
Asian neighbours
This is not without consequences for the rest of the world. China has accounted for between a quarter and a third of global economic growth since the 2008 financial crisis. Not only through exports, but also through imports, China became increasingly intertwined in global trade flows. The IMF calculated how strong this mutual relationship is: an extra percentage point of Chinese economic growth means that global GDP will increase by an extra 0.3 percentage point.
China’s Asian neighbors in particular have become heavily dependent on the fortunes of the Chinese economy. Chinese imports from Taiwan account for a third of Taiwan’s GDP. For Vietnam and Malaysia, this is more than one-fifth of GDP. It is uncertain whether domestic demand in China will remain sufficient for these countries as well. The average forecast for the growth of the Chinese economy at the beginning of this year was between 5 and 6 percent. Many economists are now below 5 percent.
While the West is less dependent on China than Asian countries, this is not the case for a few large Western companies. The American chip maker Qualcomm generates almost two-thirds of its turnover in China, the German automaker BMW a third and the Dutch chip machine maker ASML almost a quarter.
From a foreign point of view, there are also some positive effects of the Chinese malaise. The exchange rate of the Chinese currency, the renminbi, has fallen by more than 5 percent against the dollar since the beginning of this year and almost 8 percent against the euro. As a result, Chinese products become cheaper for foreign buyers. Because the EU and the US get 20 percent and 17 percent of their imports from China respectively (excluding indirect Chinese imports via other countries), this has a depressing effect on inflation, weekly newspaper noted. The Economists last on. Less Chinese economic activity also means less Chinese demand for oil and gas, which has a depressing effect on prices in these markets.
Meanwhile, the government in Beijing is faced with the question of what to do to boost the economy. It already lowered reserve requirements for banks twice this year and is about to do so again. This allows banks to lend more. The central bank has already cut its interest rates twice in the past three months and last week the minimum mortgage rates for first-time buyers on the housing market were lowered in several major cities.
It is all intended to boost lending – but the question is whether there is a need for more credit. Private sector debt is already very high.
Moreover, further interest rate cuts go against the Chinese central bank’s attempts to simultaneously maintain the value of the renminbi. It does this, among other things, by putting more dollars on the market, which increases the value of the renminbi against the dollar.
Another option is to increase government spending to stimulate domestic demand. But Beijing has already seen its national debt double in the past eight years to 82 percent of GDP – and the question is how much hidden debt there is in regional and local governments. The budget deficit this year is already 7 percent of GDP, according to the IMF.
And so the emphasis of Chinese policymakers naturally shifts from domestic demand to foreign demand: more exports could help the economy. But is the rest of the world waiting for that?
China as a risk
The West is now busy becoming less economically dependent on China. Under the authoritarian president Xi Jinping, the country is seen as a threat to the US, and increasingly also to European countries. For many things – from face masks to raw materials for the energy transition – China dominates production lines and supply routes. China can also cut off those supply lines, for example if the conflict around Taiwan escalates. Decoupling (decoupling) from China is now the credo, or, more modestly, de-risking (reducing the risk from China). Hence the Western restrictions on the use of Chinese telecom technology (Huawei and 5G), the restrictions on the export of chip technology to China, and the Western attempts to source strategic raw materials outside of China. And to return to those Chinese electric cars: French President Macron wants import duties to be imposed on them.
However, these attempts at ‘decoupling’ are not all successful. In the US, direct imports from China are declining, but are largely being replaced by indirect supply routes from Chinese companies via countries such as Vietnam, it appears from academic research. However, investment by foreign companies in China reached an all-time low this month.
A further proliferation of trade barriers would hurt the prospects for the Chinese economy: exports suffer, as do imports of technology and knowledge. Such a decoupling scenario could also have implications for Western economies, including rising inflation. Inflation is currently being brought down by the cheap Chinese currency, but further disruption to free trade will actually increase inflation in the long run. The more restrictions on trade, the less room for international competition, which drives up prices.
‘Economic lung covid’?
How do China’s economic problems affect the geopolitical battle between Beijing and Washington? Unlike the Chinese economy, the US economy is performing above expectations. This skewed growth is discussed in the US with a mixture of concern and hope. President Biden himself described China’s economic problems as something of concern. “When bad guys are in trouble, they do bad things,” he said at a meeting with lenders. In other words, a cornered cat makes crazy jumps.
Some American commentators see opportunity. Adam Posen, director of the authoritative think tank Peterson Institute (PIIE) in Washington, recently published a controversial article in Foreign Affairs, titled ‘The End of China’s Economic Miracle’. In it, he argues that the erratic autocrat Xi has broken consumer and business confidence. That is why the problems will last for a long time, thinks Posen: this is about “economic long covid”.
Now, Posen believes, the US can stop its confrontational policy towards Beijing and let President Xi “do the work for them”, or let Xi weaken his own country economically. To further undermine the regime, the US could open its doors to Chinese students, companies and capital, Posen recommends.
Posen’s piece echoes that American market capitalism has triumphed over the Chinese state-led model. But it is much too early for such an ideologically driven conclusion. The first question is whether the Chinese growth slowdown will continue. It will then become clear whether the Chinese rulers will succeed in reforming the economy. It would not be the first time that the West has underestimated China.
A version of this article also appeared in the newspaper on September 2, 2023.