Stability is part of China’s policy mantra: it is always emphasised at key political gatherings, like at the National People’s Congress each March. With the leadership-changing 19th Communist Party Congress coming up later this year, stability consumes all other policy objectives.
But the price for a single-minded pursuit of stability may be too high. It could morph into prolonged stagnation. Worse, the cumulative pressure could erupt one day and make stability difficult to achieve thereafter.
It is a fine line between stability and stagnation. Indeed, prolonged stability is historically associated with stagnation, especially in China. The current obsession with it reflects the traumatic experiences of China’s recent past. The economic slowdown has magnified fears of instability. But diverting so many resources to maintaining stability is itself a source of instability. Wasting resources cannot be good for long-term stability.
Sustainable stability can only be achieved by eliminating the destabilising factors. Various indicators, such as energy consumption, freight traffic and export volumes, and so on, show China’s economy has slowed by half in the past five years, after a dozen boom years.
The slowdown itself shouldn’t be a big worry. A double-digit growth rate can’t last forever. The perception of instability stems from the constant rhetoric and efforts to prop up the economy. A policy-induced uptick comes with a surge in leverage and no lasting power. China’s economy is increasingly beginning to resemble a chronically ill patient requiring constant medication.
When someone is always on medication, bystanders naturally fear a sudden turn for the worse. Spending resources to make people think otherwise doesn’t have a lasting effect. The real solution is to cure the sickness and wean the economy off its addiction to the stimulus drug.
The most important source of China’s instability is that its investment size is too big for its potential growth rate. Investment above depreciation replacement must be supported by economic growth. The faster the economic growth, the bigger the investment relative to the economy. When the potential growth rate is over 10 per cent, the investment size could be 40-50 per cent. But, when the potential growth rate is 5 per cent, the sustainable investment size needs to drop below 30 per cent. China’s inability to scale down investment is the ultimate source of its instability.
Ongoing efforts to support stability boil down to monetary support for maintaining investment. Last year, state sector investment rose by 3.4 trillion yuan (HK$3.8 trillion) or 18.7 per cent from the year before, to 29 per cent of GDP. Nominal GDP rose by 8 per cent or 5.5 trillion yuan. It is obvious whose spending led the economy.
The property bubble should be viewed in the context of financing state-sector investment, as most of the proceeds from sales in the property market go to the government.
Last year, new residential property sales rose by 33 per cent, to 15 per cent of GDP.
Fast monetary growth, the property bubble and state-sector investment have become China’s GDP trinity. When the government reports the economic performance for the past year and its target for the coming one, it is basically saying how much money it printed and will print, how much property it sold and will sell, and how much fixed investment the state sector will make. This resembles a gigantic investment stimulus programme.
The trouble with the above approach is that China’s labour market is fully employed, and overcapacity is pervasive. That is, the economy has limited and declining capacity for absorbing stimulus effectively. Stimulus always has an element of waste. With declining effectiveness, stimulus becomes more and more like total waste. Financing for the stimulus is no longer backed up by useful assets. This is what occurred in the Soviet Union during its waning years. The high inflation in the 1990s reflected its wasteful past investments. The worry of something similar happening to China is behind all the jitters.
In the past five years, the search for debt stimulus has focused on increasing household debt, which has risen at 20 per cent annually for the past five years and reached 100 per cent of household disposable income last year. The current level is high but could go higher. But why should the government policy be pushing people into deep indebtedness, and to what end?
The current game is essentially to load up the household sector with debt, by enticing them with speculative gains in the property market, to finance wasteful investment by the state sector.
How could this be good for stability in the long run?
China’s economic policies increasingly resemble the moves of a juggler. Anyone watching has good reason to be nervous, as the ball at the top is growing bigger. Throwing money at fostering the perception of stability doesn’t cut it; it just becomes another source of waste.
Andy Xie is an independent economist