China’s destructive creation hits GDP growth The country’s leadership has promised an omelet; for the time being we have some broken eggs David Goldman
https://asiatimes.com/2021/10/china-must-lead-the-new-industrial-revolution/
The second great transformation of China’s economy is underway, and it won’t happen without some pain.
China’s meager GDP growth of 4.9% in the third quarter is both worse and better than it looks. Net of exports, GDP growth would have fallen to around 1%, mainly due to the air pocket in the property sector that comprises a quarter of GDP.
The good news is that China’s industrial supply chains rose to the occasion and compensated for disrupted manufacturing output elsewhere in the world. September exports rose 28% year-on-year.
China wants to shift investment toward high productivity outlets in manufacturing and services, away from construction. Its strategy depends on harnessing the new technologies of the so-called Fourth Industrial Revolution, which offer a high growth path for a country with a stagnating labor force.
That’s the omelet that China’s leadership has promised; what we have for the time being are some broken eggs.
Chinese monetary officials, I reported September 24, want to reduce home prices as a matter of social policy, and they used the Evergrande crisis as a blunt instrument to do so. Once the government signaled lower home prices, current sales collapsed. The top 100 developers reported that September sales fell 37% compared with the same month in 2020. Anecdotal reports have asking prices for new homes down by 30% to 40% in some third- and fourth-tier cities.
Homes in top-tier cities such as Beijing, Shanghai and Shenzhen now sell for about 50 times the average Chinese income. That number is exaggerated because employees in top-tier cities typically earn a multiple of the average income, but it still puts homes out of reach of a very large number of Chinese.
In second-tier modern cities like Chengdu or Wuhan, the ratio of home price to average income is 20:1, about the same as in Singapore. To put this in perspective, Taipei homes sell for 34 times the average income.
That is the social problem the Chinese authorities want to mitigate, without, however, provoking a housing market crash. Mortgage debt is a much smaller proportion of home values in China than in most countries. The loan-to-value ratio nationwide was only 36% in 2016, according to a 2019 International Monetary Fund study. Nothing short of a catastrophic decline in home prices would affect the creditworthiness of the broad housing market.
Chinese authorities began choking credit for the property market in 2019, when the growth rate of new real estate loans dropped sharply. Credit for manufacturing had stagnated at a 5% annualized growth rate during most of the 2010s while property development loans grew at 10% to 20% a year, as shown in the chart below. This began to reverse in 2019 when the growth rate of property lending began to slow, falling to just 5% in the second quarter of 2021, while the growth rate of industry loans jumped to 20%.
As China moved 600 million of its citizens from the countryside to cities during the past 40 years, the property sector ballooned relative to the total economy. Rising land and home prices, moreover, made real estate investment a one-way bet for China’s property companies, which borrowed as much as they could to buy appreciating property. Loans to property developers amount to more than $5 trillion, according to a Nomura Securities estimate. That’s about 10% of China’s total social financing (aggregate credit to the economy) of about $50 trillion.
China’s debt-to-GDP ratio grew rapidly during the 2010s but shrank during the past two years, largely due to restrictions on property lending. That is noteworthy, given that debt increased rapidly in all other major economies due to government stimulus during the Covid-19 pandemic.
In 1992, the property sector comprised just over 10% of GDP. By 2020 it had risen to 25%. China built homes for 600 million people – the equivalent of the population of all of Europe, from the Ural Mountains to the Atlantic. By the 2010s, the expansion of the property sector became a drag on productivity. The long-term growth rate of total factor productivity (the change in output relative to changes in capital and labor inputs) had fallen from about 3% a year at the end of the 2000s to about 1% a year at the end of the 2010s.
The Deng Xiaoping strategy of turning subsistence farmers into semi-skilled industrial workers had run its course. Of the Chinese who entered the workforce when Deng began China’s market reforms in 1979, only 2% had university education. But 27% of Chinese who entered the workforce in the past five to ten years have college degrees, and a majority of Chinese high school students today aspire to tertiary education. A third of Chinese college students major in engineering.
China is building the human capital for the productivity transformation it requires. Any number of Western analysts have predicted that the sources of Chinese growth would give out and that China would tumble into the “middle-class trap” – that is, languish at per capita income levels well below those of the industrial world.
This is China’s second moment of truth since the communist revolution of 1947. Mao Zedong failed abominably in his effort to turn rural China into a viable economy during the Great Leap Forward, which caused perhaps 45 million deaths by starvation. Deng Xiaoping solved the problem by destroying the old, rural China and building an urban manufacturing giant.
Now China has to transform a semi-skilled industrial workforce into the pioneers of the Fourth Industrial Revolution. The preconditions are there in the form of infrastructure, technology, and above all human capital, as former World Bank chief economist Justin Yifu Lin argues in a new book. Now China has to execute.
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