The slowdown in the Chinese economy may be inevitable, but it is also unwelcome at a time of lingering economic uncertainty across much of the globe. After 30 years of growth averaging 10%, the 7.4% reported for 2014 was the slowest since 1990. Yet it is almost certain that the world, and even perhaps sections of the Chinese government, have been operating under false pretenses. This mattered less when the world’s most populous country was expanding, shifting from a rural agrarian based economy to an urban based manufacturing one. Yet as the current credit supplied and manufacturing model slows, a creaking property bubble, opaque banking sector and drop in demand for goods from the rest of the world are coalescing. With no clear idea of the underlying strength of the Chinese economy, the risks of short and long term shocks are spreading as the authorities become increasingly unable to plan for the future.
But how can we be so sure the official data is wrong? The release of China’s official 1Q15 GDP data in April was superficially reassuring. By comparison with a stuttering global economy that will do well to achieve 2.9-3.0% this year, China reported a 1Q figure of 7%, one of the lowest numbers reported this century (see chart below), but on track to achieve the government’s centrally planned target of the same figure. Yet Citi investment bank has publically broken ranks with the ‘don’t ask, don’t tell’ consensus to suggest that the ‘official’ figure bares little resemblance to reality and that the real number for the period should be sub-6 %. A degree of speculation about the validity of China’s economic statistics has been around almost as long as there has been the data to analyze, yet it is now gathering pace. For those willing to delve into the data, the numbers just didn’t add up. Distortions, corruption and the manipulation of statistics at the regional levels imply that the regions and provinces are growing at a faster rate than the country as a whole – a clearly impossible feat.
The issue has taken on a greater sense of urgency now because even the official figures show a marked deceleration in the Chinese economy. The government has been concerned enough to cut rates three times so far in 2015, an indication of how out of sync the two largest global economies are. One is still cutting rates, while the other is preparing to raise them.
Some other estimates put the performance of the Chinese economy in Q1 much lower than Citi’s. Capital Economics, an independent UK research outfit suggests the figure was as low as 3.8%. China watchers argue that it is difficult to reconcile achieving 7% GDP expansion when industrial production, an accurate proxy for growth, only rose by 5.6% in March. Other domestic indicators suggesting that the top line growth numbers are too optimistic include data for electricity consumption, manufacturing output and industrial profits.
As the world has operated in a state of wilful (or benign) ignorance regarding the real state of the Chinese economy for so long, does it really matter what level the Chinese economy is growing at? We would argue that it does, and not just because of the implications for China’s trading partners. In 2010 the Chinese Communist Party estimated that it needed annual growth of 8% to avoid social unrest.
Though it has been cutting rates, the Chinese Central Bank, the People’s Bank of China, has not been able to stimulate loan growth to revive domestic demand. Instead lower rates have fuelled the domestic stock market, inflating asset prices just at a time when they need to be brought down. Across the banking sector, non-performing loans have increased by a factor of 7x to the equivalent of $158 billion in the Q1 2015, the largest jump experienced in a decade. The monetary juggling that the Chinese authorities will have to employ over the coming months should be watched with particular attention. Is all the ‘bad news’ out in the market or not? With limited access to accurate data it is almost impossible to reply in the positive, which is in contrasts with the situation in Brazil where a concentrated period of economic and fiscal underperformance is being tackled with a range of restorative and real confidence-inspiring measures.