The good and bad of China's growth

Construction workers in China

So the good news is that China's economy is growing at a marginally reduced annual rate of 7.7% per annum.

And the bad news is that China's economy is growing at a marginally reduced annual rate of 7.7% per annum.

What do I mean?

Well, whether or not you regard China's official economic statistics as beacons of empirical accuracy (few do), it is clear that there's no hard landing in China, no precipitate end of the high-growth era, whose implications (some bad, some good) would be felt the world over.

But there is an argument, which I have spent the last few months investigating in a film for BBC2 (which is finished, and will be broadcast soon-ish), that the current main sources of Chinese growth are unsustainable - and that the longer growth remains at this kind of rate, the more spectacular and damaging the eventual reckoning will be.

How so?

Well, the first thing to say is that it's all our fault (I am not being wholly flippant).

Because the big flaws in China's economy worsened in 2008, in the immediate aftermath of a banking crisis which was a Western phenomenon but which hobbled growth and demand almost everywhere.

In particular it undermined China's export-led economic model. When Europe and the US in effect went bust, we no longer wanted to buy all that lovely cheap stuff made in China, so China's economy ground to a halt, prompting the urgent need for another way.

A very courageous Chinese government might have taken the opportunity to engage in the kind of "demand rotation" that it and the world really needed - namely to put through big reforms which would have encouraged its 1.3 billion people to consume and spend much more.

This would have involved rapid liberalisation of its financial sector, to provide better returns on investment, and a fundamental loosening of the supply of consumer credit. And there would have been substantial steps towards the establishment of a proper welfare state, which would have obviated the need for the Chinese to save six times what we save (as a share of disposable income).

If there had been a significant rise in the share of the Chinese economy represented by consumption, from a third to nearer the two-thirds of mature decadent economies such as ours and that of the US, China's long term growth prospects would have been enhanced - and the stagnation of our economies would not have been so elongated, because there would have been much better opportunities for our own exporters.

However, it wasn't to be.

Chinese worker on scaffolding

China's government took the view that re-engineering on that scale brought excessive risks, in that there undoubtedly would have been a marked deceleration of growth for some time, during the period of structural change, and the risks to political stability would have been too great.

The fear of the Chinese government was that unemployment would have risen to levels in which discontent with economic stewardship might have transmuted into open criticism of the one-party state. The bargain between Communist Party and people - prosperity as the dividend for sacrificing democratic rights - would have been broken.

So instead the government went for an apparently more direct and easy resuscitation - it created the mother of all investment and lending sprees.

To be clear, in 2007 most economists were even then arguing that China was too dependent on investment, with expenditure on plant, equipment, buildings and infrastructure already 40% of national income, or GDP.

But rather than there being a "rebalancing" away from investment, it actually shot up, to 50% of GDP. There was a splurge on remaking the urban and industrial landscape, more or less unprecedented in history.

Wherever you go in China, you can see the fruits, from the world's tallest skyscrapers and longest bridges, to roads that seem to go nowhere and mind-boggling numbers of unoccupied new homes.

What's more, those legacies of the Maoist era, the state-owned enterprises, had a new lease of life - on Beijing's orders - creating huge new productive capacity.

That yielded the short term benefit of expanding employment, and the long term cost of killing their profitability, because so much of the new capacity was beyond what the market could bear.

All of which was a bit short-termist, especially for a government famed for its 10-year plans. But the biggest danger stemmed from how all this investment and expansion was financed.

Housing project A newly built housing project in Hangzhou, eastern China

The government ordered the banks to "open their wallets". And my goodness how the banks obliged.

And after Beijing became anxious that the growth in direct bank lending was perhaps more rapid than was consistent with the maintenance of proper credit standards, the banks showed the kind of creativity that would have made a bonus-bulging City or Wall Street investment banker proud. There was an explosion of lending through "shadow banks", which were nominally separate from the banking system, but much of the liability was still effectively with the banks.

The consequence was that lending has been rising at an unsustainably fast annual rate of 15% of national income per annum since 2008, so that total debts are now twice GDP, and the total liabilities of the banking system exploded by $15tn over that period.

Or as Charlene Chu, late of ratings agency Fitch puts it, just the increment in the balance sheets of Chinese banks since the 2008 crash is equivalent to the aggregate size of US commercial banks, whose balance sheets have grown to that point over a century.

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China remains hooked on debt-fuelled investment - there is no healthy rebalancing”

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Chu does not think an economy can be weaned off that degree of addiction to debt-fuelled growth without - ahem - there being some kind of shock to the economy.

But even if you thought she was being unduly pessimistic, you would want the rate of lending and investment to grow at least no faster than the economy - because the longer they grow faster than the economy, the greater the danger that eventually the debt burden and the write-offs of lousy investments become unaffordably big.

Or to put it another way, the longer that China has the wrong kind of rapid growth, the greater the risk that an eventual crash will muller China and bring contagion to connected financial institutions and economies.

That brings us back to those good and bad GDP figures published today.

They show that fixed-asset investment (excluding rural households) increased by 19.6% last year, down slightly from 20.6% in the previous year. But - and this matters - investment was up much more than retail sales (13.6% higher) and industrial production (9.7% up).

Or to put it another way, China remains hooked on debt-fuelled investment. There is no healthy rebalancing.

Now, the government has announced a 10-year plan, at its recent plenum, to gradually increase the share of consumption in growth, and tilt away from construction and investment.

Will they succeed? How long will it take? And what are the consequences for China and us if they don't?

Well, in the words of the original Batman and Robin TV series of the 1960s, tune into my BBC2 documentary (in just a few weeks) to find out (sorry for the shameless plug - and see my colleague Linda Yueh's note for more on all this).

Robert Peston, economics editor Article written by Robert Peston Robert Peston Economics editor

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This column may be a bit quiet for a bit, because I am away from the office.

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  • rate this

    Comment number 29.

    Never mind Robert the Chinese will build UK Nuclear power plants, mega harbours for entry to EU market etc .

  • rate this

    Comment number 28.

    #26 The same is technically true in the west. We have compulsory purchase orders which allows the govt to force sales of land at 'market rate'. Cyprus shows the govt can seize your savings if they wish & the British 'Defence of the Realm' act basically allows the govt to do whatever it wants. Plenty of villages forcibly cleared near Salisbury during WW2. Owners never allowed back.

  • rate this

    Comment number 27.

    don't mention the 10 yuan =£1 exchange rate that has bankrupted the uk long before china will. A parasite is the LAST to die after its host dies. The communists use the financial system as a strategic policy. Also china have invested their money in owning natural resources unlike the uk that has blown it on the dome and goldplated final salary pensions for civil servants

  • rate this

    Comment number 26.

    If you buy property in China it is not really yours but is instead property of Communist Party? The CP will take your property from you when it suits them & without any compensation? This is a way of grabbing your money? This happens to Chinese people all of the time. No rights to property, or human rights, or proper rule of law in regime China. The CP own everything including the Chinese people

  • rate this

    Comment number 25.

    Has any economy ever considered sustainment? Can an economy grow infinitely?

    I’d much rather live without the boom years, if it mean there were no busts. Why can’t we just establish a comfortable living standard, and sustain that standard.

    ‘Profitability’ is a finite objective in my opinion.

  • rate this

    Comment number 24.

    "When Europe and the US in effect went bust, we no longer wanted to buy all that lovely cheap stuff made in China,"

    Oh gosh, I thought Labour had told us that it had been a "Global Banking Problem" and therefore not their fault. Seems it was just a "North Atlantic" problem after all and therefore down to national government policies.

    Not that we didnt know that anyway.

  • rate this

    Comment number 23.

    "This would have involved rapid liberalisation of its financial sector"

    So right after the western finance sector blew up, you expect the Chinese to follow suit?

    And they pay you to write this?

    When will you learn, like the 99%, that liberalising finance means they will destroy your economy and bleed you dry?

  • rate this

    Comment number 22.

    15 Contin.

    If you seek a purchase of flats (not detached houses!) in Beijing, you have to pay the same size for an "AVG" price of £4500/m2, or, £450K in total excluding other handling fees, this only brings you to live somewhere 'near to the heathrow airport' if you are lucky

  • rate this

    Comment number 21.

    See stock markets recently have seen highs, makes you wonder how much froth there is and when facts like this coming out of China are factored in, a bear market could be on the way. !!!

  • rate this

    Comment number 20.

    Continual growth is not sustainable, neither is continued profit - there are less resources to be obtained and no new markets to trade with.
    There needs to be a recognition that continual growth is neither sustainable, nor realistic. For the sake of future generations we need to lessen our demands on the world. It is tricky to ask China not to exploit as this is something the West did.

  • rate this

    Comment number 19.

    So according to Robert the Chinese response to falling exports caused by reduced western wealth due to a credit bubble collapsing should have been to encourage their own citizens to buy a ton of cheap tat on the plastic?

    Oooo that's smart!

    China is doing just fine - if you need proof go look at the "made in stamps" on the majority of Christmas toys/gadgets etc. It's still China!

  • rate this

    Comment number 18.

    All perpetual growth is unsustainable. We live on a finite planet.

    The fact the Bank of England have built their business model on it is neither here nor there.

  • rate this

    Comment number 17.

    @12 Hunter S Thompson
    What is the catalyst that eventually makes them start to reduce it (national debt)
    The catalyst is when no-one wants to buy the debt any more, but by then it will be too late.
    We arrived at this point through attempting to engineer prosperity through debt financing, but the party comes to an end when there are no assets left to leverage.

  • rate this

    Comment number 16.

    Like most growth around the world it's built on mass exploitation of those at the lowest rungs of society, eventually it's all going to explode.

  • rate this

    Comment number 15.

    In the 3rd photo, it shows newly built flats in Hangzhou, a city of eastern China. For a humble 2-bedrom so-called naked flat (not refurbished yet), an AVG. rate of housing prices there is above £2500/m2, a decent size for a typical family is 100m2 (actual internal size is 75-85% of 100m2), so you have to pay £250K in total excluding other fees. Interesting, always sold out right away

  • rate this

    Comment number 14.

    Of course China's growth is unsustainable, there simply is not enough resources or capacity of the Earth to absorb all the CO2 and other pollution that goes with bringing 1.5 billion up to the same standard of leaving that the US has. Something has to give somewhere.

  • rate this

    Comment number 13.

    An Western Governments will continue to run balance of payments deficits, and increase soverign debt, based on "world" economic growth (mostly driven by China).
    Then when the Pudd. hits the fan it will yet again be unforeseen and upredictable, and unprecedented. not the fault of the politicians, or the bankers !

    Sounds familier !!

  • rate this

    Comment number 12.

    I see myself as a relatively intelligent person, but I have never managed to get my head around how countries get themselves in such astronomical amounts of debt?

    And what's the catalyst that eventually makes them start trying to reduce it? £15 trillion is okay but £20 trillion is too much?

    And then debts are just righten off at the drop of a hat?

    Where's the logic?

  • rate this

    Comment number 11.

    Oh how we'd love to think that the Chinese have plans that fit into our quarterly balance sheet way of thinking.

    The far east has always looked to a longer term, that's why they have a civilisation that's lasted thousands of years. Does it have it's problems, yes. But they manage to navigate them without half the belly aching that our lot do.

  • rate this

    Comment number 10.

    "China remains hooked on debt fuelled investment"

    The difference is that China can back their debts up with real money, rather than the UK's policy of creating more debt to fund the old

    But then they make things to bring in that money, and we don't


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