"The main growth driver of the past several years has been an
investment boom that was engineered in response to the global
financial crisis," explains Chovanec, "and this investment boom
is buckling under its own weight."
What are the main causes-internal and external-of China's
worsening economic slowdown?
A lot of people compare this slowdown to what happened in late
2008, early 2009. The main difference is that what happened in
2008 was primarily due to external causes- a fall-off in exports
caused by the economic crisis in the United States. What's
happening now in China is mainly due to internal reasons. The
main growth driver of the past several years has been an
investment boom that was engineered in response to the global
financial crisis, the last slowdown, and this investment boom is
buckling under its own weight. It's not sustainable, and it has
given rise to inflation and now to bad debt, and that bad debt is
dragging down Chinese growth. And, of course, people pay
attention to whether Chinese exports are rising or falling. It's
relevant because if Chinese exports are very vibrant, that
creates something of a cushion for the Chinese economy.
If the causes of the slowdown are more internal, and not
just a response to outside factors like the eurozone crisis,
should we expect a more long-term slowdown?
It really depends on what the Chinese leadership chooses to
do. China is due for a correction. That correction will be good
for China in the sense that a lot of the growth we've been seeing
over the past several years is not sustainable and in many ways
does more harm than good. So in some ways, slower growth, if it's
part of an adjustment toward a more sustainable growth path, is
actually good. That doesn't mean it's painless, so there is a lot
of resistance, even though in principle China's leaders know that
China needs to make this economic adjustment away from dependence
on exports and investment-driven growth toward more domestic
consumption-driven growth. If they resist a meaningful adjustment
and if they try to pump up the economy even more- try to push
this growth model to its limits and beyond- then the
repercussions could be more damaging and painful than embracing
any economic adjustment, painful as that might be.
I would add that there are lots of areas of potential growth
in the Chinese economy- in agriculture, in services, in
healthcare, in retail, in logistics. The problem is that that
growth is not as easily achieved as pumping money and boosting
investment. Unfortunately, that more sustainable growth is not
where the focus has been these past few years. But there is
nothing to say that the Chinese economy has to be doomed to slow
growth.
What are some policy responses China should take to boost
domestic consumption and diversify sources of growth?
They have to realize that it is a structural issue. Part of
China's export-led growth model was to suppress consumption in
order to maximize investment and then make up the difference
through selling abroad. The Chinese economy is geared toward
channeling resources away from the household sector- Chinese
savers and consumers- toward investors and producers to boost
production and basically turbo-charge GDP growth. To re-balance
the Chinese economy, you have to channel those resources back to
the household sector through changing exchange rate policy,
interest rate policy, the tax policy.
The problem is that if you channel resources back to the
household sector, you knock the legs out from under the growth
that you've got, and nobody wants to do that. That's the biggest
challenge- that these are deep reforms that change the way the
Chinese economy works, and it takes some foresight and some
vision to pursue that.
What of the short-term measures the Chinese central bank
has taken by cutting interest rates twice since the beginning
of June? Should we expect further measures along this
line?
Unfortunately, the short-term response we have seen is to
fixate on GDP growth. Even though they talk about the need for
quality GDP growth over quantity, whenever GDP starts to look
like it's falling- even slightly- the immediate response is, "We
have to shore it up." The easiest way to shore it up is through
more lending, more investment. You get a situation where any
movement toward meaningful reform or meaningful re-balancing is
put on a shelf. A lot of people have been critical of the efforts
to re-stimulate the Chinese economy for precisely that reason.
There is a broader recognition that what the Chinese economy
needs is not more stimulus, but reform. I don't think there is a
full appreciation for just how constrained the Chinese government
really is, even if it chooses to go down that path of
re-stimulating the economy. They are actually quite limited in
their ability, in the tools they have available to continue
pushing down this path.
The conventional view is that China has a debt-to-GDP ratio of
about 30% and that it has all kinds of resources to throw at
boosting growth. I would draw a comparison to Japan in 1990.
Japan had many of the same qualities that would lead you to think
it could stimulate its way out of any dilemma. Japan had a high
savings rate, almost no foreign debt, and it had a strong fiscal
position because of all the taxes raised during the boom of the
1980s. But when the Japanese turned on the fiscal tap, the money
went primarily to socialized losses and to counteract a
contraction in private investment. The Japanese were able to
prevent GDP from collapsing, but they were not able to sustain
high levels of GDP growth in the 1990s; the fiscal resources that
Japan had went to fill a hole, to pay for the growth of the
1980s.
With the lending boom that took place in China in the last
three or four years, it was fiscal spending in disguise, and now
the bill is coming due. Once the fiscal taps are open, the money
released will go to pay for the growth of the past four years,
not the next quarter, not the next year, not the next decade. You
start to see that already, with the bailouts starting to take
place in China; local governments, even the national government,
devoting resources to bailing out property developers, bailing
out state-owned enterprises, bailing out companies that have run
into trouble, bailing out local governments.
What are the implications of the economic slowdown for the
Chinese political situation, particularly given a once-a-decade
leadership transition this year?
There's been little political capital for anyone to spend on
meaningful reform or any kind of resolute action on the economy,
because if people did have political capital to spend, it was
going to be devoted to ensuring their seat at the [leadership]
table. What happens after the leadership transition [is] hard to
say. The slowdown we are seeing, and particularly the pressures
that it has created in the financial system and the credit system
in China- the danger of default and the danger of a domino effect
rippling through the Chinese economy- has pressed some difficult
choices on [the] leadership at a point where they are least
prepared to make decisions. The economic situation is not waiting
for the leadership transition to work itself out before demanding
some kind of response.
What are the potential repercussions of China's economic
situation on the U.S. and global economies?
It depends where you sit relative to the Chinese economy.
There are countries and companies that have been riding this
investment boom that has been driving Chinese growth, but I would
argue that is not sustainable and is now collapsing under its own
weight. And for those countries- like Australia selling iron ore,
Chile selling copper, Brazil selling iron ore, Germany selling
machinery- they're very exposed to this economic adjustment
that's taking place, this correction.
But if your goal over the long-term is to sell to the Chinese
consumer, and if you have an economy positioned to do that- if
you're a producer of finished goods or a producer of food- then
this economic adjustment could be a good thing if it unlocks the
buying power of the Chinese consumer. For any economy around the
world that wants to sell more to China, that wants to have a more
balanced trade relationship with China, a meaningful economic
adjustment that resulted in a more balanced domestic economy in
China would be a very positive thing.
If you have lower GDP in China, that doesn't necessarily mean
that China's consumption has to fall. In fact, China has $3
trillion in reserve; that's buying power. China has produced more
than it has consumed for many years; China could afford to
consume more than it produced. That would be a major growth
driver for the rest of the world. It would provide a cushion for
China to undertake this kind of economic adjustment that
otherwise could be extremely painful.