By Group Captain Praveer Purohit (retd)
Speaking to the media at the World Economic Forum (WEF) in Davos in January this year, José Viñals the Chairman of Standard Chartered had said, “In the second half of the year, I think that the Chinese economy is going to be on fire and that is going to be very, very important for the rest of the world.” Sounding optimistic about Chinese economic recovery, he predicted a positive market sentiment on China that augured well for the world. Recent data on the Chinese economy and damaging developments in the real estate sector have turned such optimism into concern.
Chinese GDP grew by just 3% in 2022, its second-slowest growth rate since 1976. This was well below the government’s target of around 5.5%. While this was attributed to almost three years of harsh COVID-induced lockdowns, the subsequent opening-up was expected to rejuvenate the economy. The recovery was muted, with growth in the first quarter of 2023 at 2.2%, while in the April-June quarter it slipped to 0.8%. Underscoring the sluggishness, retail sales grew 3.1% in June and just 2.5% in July, even as industrial output growth slowed.
The quarterly results of tech giants, Tencent and Alibaba were none too impressive, the former logging a Year-on-Year (YOY) increase of 11% in revenue and the latter 14%, both falling short of forecasts. Alibaba flagged slow growth and weak demand in its key cloud segment as a worrisome factor. The dismal performance of the Chinese economy came to fore when Beijing reported that Chinese exports plunged 14.5% in July while consumer prices fell 0.3%, raising fears of deflation. Bank loans in July grew at the slowest pace in 14 years, despite a recent interest rate cut.Retail sales, industrial output and investment in July all grew at a slower-than-expected pace.
China’s real estate sector has been in dire straits for the last two years. The magnitude of the crisis has only deepened when Country Garden Holdings, one of the China’s largest developers by revenue, missed coupon payments on two offshore bonds.Country Garden reported 12.07 billion yuan in contracted sales during July, down 60% from a year ago and 78% from 2021.The company’s admission of reporting a net loss of up to $7.6 billion for the first half of this year has unsettled investors.If it fails to pay investors by the end of a 30-day grace period, it will be in default on the securities, each with a face value of $500 million.
On 17 August, China’s second-largest property developer, China Evergrande Group and its subsidiary Tianji Holdings filed for bankruptcy in New York, seeking to protect its US assets from creditors. Evergrande filed for Chapter 15 protection, which is meant for insolvency cases involving non-US companies and other cross-border parties. Evergrande had defaulted on its debt in 2021, triggering a property crisis that is still a drag on China’s economy. The company lost $81 billion in 2021 and 2022. It is estimated that 38 of China’s 116 listed real estate firms will report losses in the first half of this year. Another big company, the Jinke Property Group has defaulted in a series of bond obligations. It has now obtained shareholder approval to move court with a restructuring proposal.
Sichuan Languang Development was delisted from the Shanghai Stock Exchange in June, after its share price remained below the one-yuan minimum for more than 20 working days. According to its latest disclosure before the delisting, the company has not paid up 42.55 billion yuan of debt and faces lawsuits involving 914 million yuan.
Other property companies that have struggled to pay their debts include Ronshine China Holdings, with more than $2 billion of unpaid obligations to investors. Zhenro Properties Group, defaulted on a $300 million offshore bond in May,continuing a series of defaults by the company. The default rate on China’s high-yield property bonds is worrying. According to JP Morgan, in 2021, the default rate was 30% amounting to $45 billion. In 2022, it rose to about 53% amounting to $57 billion. The default rate for 2023 so far has already touched 30%. The effect of China’s property woes has been a weakened market sentiment, delay in recovery, uncertainty and loss for investors. A Politburo meeting of the Chinese Communist Party (CCP) on 24 July did spell some stimulus measures but they have not resulted in any noteworthy positive effect.
China’s faltering economy, spearheaded by the real-estate crisis and fading hopes for effective stimulus from the government have led foreign investors to dump Chinese stocks.In July, foreign investors net-sold $5.04 billion of onshore bonds, reversing a two-month buying streak.
China also refrained from publishing youth unemployment data for July, citing “constant changes in the economy and society.”
In the first fortnight of August, foreign investors have net-sold about $6.35 billion of stocks. Medical equipment maker Mindray Global, China Merchants Bank and electric car maker BYD saw some of the heaviest selling, with foreign investors net offloading $1.54 billion of their shares in a fortnight. In a survey conducted by Bank of America, long term pessimism about China’s economy persists amongst 84% of the surveyed.
Morgan Stanley has lowered its third quarter GDP forecast for China by 0.77 percentage point to an annual growth of 3.8%.China’s overall debt-to-GDP ratio stands at approximately 300% and is rising. This is the highest among emerging markets and higher than most advanced economies as well. While China’s central government debt is just above 20% of GDP, debt at the local government level is estimated to be more than 70% of GDP. Moreover, many local governments do not have enough cash flow to pay interest on their debt. There is evidence to suggest that debt has been consistently rising faster than output over a prolonged period and a growing share is allocated to non-productive sectors.
China is staring at many economic challenges- declining productivity, a shrinking labour force, restrictions on the transfer of technology imposed by the USA, the real-estate crisis, rising unemployment in the younger population, to name a few. Youth unemployment is already at 20% and could rise further as newly qualified graduates seek jobs in an economy where growth is slowing. The Chinese government’s regulatory crackdown on the tech industry combined with China’s worsening foreign relations are also causes for the unemployment crisis.
Thus, the biggest problem remains the CCP and its leadership that prioritizes party control and a misplaced sense of national security. Under Xi Jinping, China’s actions in the recent past have eroded trust and destabilized Asia. It has also adversely affected the Chinese people. Declining income growth has shrunk consumption in Xi’s tenure. Chinese households experienced the worst slowdown in consumption growth in a generation, dropping from 6.7 % during Xi’s first term to 4 % during his second term. The average nominal annual household disposable income growth was 11.04 % from 2001 to 2012 (before Xi Jinping). It fell to 8.39 % from 2013 to 2022in Xi Jinping’s first two tenures).
Chinese citizens are increasingly insecure about their economic security. In November 2022, China’s Consumer Confidence Index plummeted to a record low of 85.5 points. China’s exports-to-GDP ratio has declined below 20% between 2016 and 2020.
A report by New York University’s Stern School of Business and DHL projects China’s export growth rate to decline from 6.6 %(2016 to 2021) to 3.4 %(2021 to 2026). Relocation of supply chains outside China may worsen it.
Although it may be premature to prophesize China’s economic doomsday, the Chinese economic model has shown serious cracks. In combating the financial crises starting from 2008, China has pumped in excess of $5 trillion in its domestic economy to overcome the crises. These had positive short-term effects but negative long-term effects. Time will tell if the Chinese economy recovers or it falls into a cyclical downward spiral.The size of China’s economy and share of world’s GDP implies secondary effects of the Chinese economic downturn on countries who trade extensively with China. Such countries ought to reassess the extent of their economic relationship with China and diversify sources and supply chains. Fundamentally, it has been China’s economic might in the last few decades that has underwritten its military prowess and made it aggressive. To expect that the turbulence in its economy will moderate Chinese belligerence is a fallacy. India, Japan, Taiwan, Vietnam, South Korea and the Philippines need to keep their guard up.
“History reminds us that dictators and despots arise during times of severe economic crisis.” — Robert Kiyosaki
The writer served in the IAF for over three decades. He holds an M.Phil in Defence and Management.
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