China’s economy: the “trash moment of history” as a model of growth without dead ends

The use of the phrase drew rebuke from state media over the summer, but entered a deepening gloom that spread across Wall Street as fresh data pointed to worsening weakness in key economic drivers. Bank of America recently cut its growth forecast for 2024 to 4.8% from 5% and sees a further slowdown over the next two years to 4.5%.

In an article for China Leadership Monitor Last weekend, Rhodium Group partner Logan Wright said that while China is still growing faster than many other countries, its global influence is likely to have peaked in 2021.

It then reached 18.3% of world GDP, before falling to 16.9% in 2023. Meanwhile, the US share stands at around 25%.

The problem is not only cyclical. Wright said that “the main reason why China’s economic slowdown is structural is one that Beijing recognizes: the growth model based on credit and investment has reached a dead end.”

All this capital fueled massive property construction and infrastructure development. But the turnaround has replaced them as growth engines, and China’s shaky financial system is unlikely to spawn new ones, he wrote.

Credit expansion will slow, drag down investment growth and the economy’s long-term outlook, he said. Meanwhile, the political leadership’s fear of letting incapacities, bankruptcies and unemployment grow prevents the financial system from channeling capital to more productive sectors of the economy.

“The financial system itself is now constraining China’s economic growth rather than facilitating it,” explained Wright. “In addition to demographics and the changing external environment, financial constraints are the main reason why China’s economic slowdown is structural in nature and why China’s economy is likely to grow at rates below potential over the next decade.”

Of course, Beijing knew that its old growth model could not last and promoted advanced manufacturing in emerging sectors such as electric vehicles and green energy as alternatives. But they are not big enough to offset the decline in property or infrastructure construction, he said.

China’s leadership has also identified the need to rebalance the economy towards more consumption instead of investment. But this is hampered by income inequality that requires an overhaul of fiscal policy to prioritize transfer payments that boost household spending.

Given the obstacles, what’s likely to happen is that consumption growth will continue to taper off and weigh on future economic growth, Wright predicted.

President Xi Jinping and China’s other leaders may not fully grasp the gravity of the situation as the official economic statistics they digest look increasingly dubious. At the same time, they also seem set to overtake the US as the world’s largest economy.

But if Xi and company can change their worldview, it could help the Chinese economy, Wright said. For example, export-led growth that relies on capturing global market share causes trade barriers. Instead, focusing more on domestic consumption could reduce trade conflicts.

Still, he’s not convinced it will happen.

“China’s economy reaching the pinnacle of global influence offers Beijing a new opportunity to realistically redefine its goals and become less confrontational with the world’s other economic and political interests,” he said. “But we are under no illusions that such a redefinition is likely.”

The warning comes as investors have also been rocked recently by red flags about China’s economy.

PDD Holdings, the parent company of e-commerce giant Temu, stunned Wall Street last month with weak quarterly results and a warning that intense competition would dent future profits. Shares fell more than 30 percent, wiping $50 billion off PDD’s market value.

It was the latest warning sign that the world’s second largest economy could be headed for a downward spiral caused by overproduction and Beijing’s industrial planning.

“Simply put, in many crucial economic sectors, China produces far more than it or foreign markets can sustainably absorb,” Zongyuan Zoe Liu, a China researcher at the Council on Foreign Relations, wrote in Foreign affairs magazine before PDD reports earnings. “As a result, the Chinese economy risks being caught in a loop of falling prices, insolvency, factory closures and ultimately job losses.”

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