NOT NECESSARILY GOOD NEWS
Confusing signals are emanating from China, not all good; there are implications for the Indian economy.
In the mid-to-late 1990s, China faced a significant debt issue, but its entry into the World Trade Organization spurred rapid growth, allowing the debt to diminish quickly. Today, however, China confronts challenges amid the "Great Decoupling," characterised by foreign capital withdrawals, U.S. technological restrictions, and declining export demand in the West. Deflation is expected to persist, and strong growth is unlikely to alleviate China's debt burden.Premier Li Qiang has commended the government for avoiding "short-term growth at the cost of long-term risk."
While indiscriminately injecting money into the economy without structural reforms would be ineffective, Xi Jinping and his economic team prioritise "high-grade growth.” The focus is on technology-driven industrial sectors led by state-owned enterprises.
Despite progress on the production side, China has neglected demand-side reforms crucial for driving a consumer-led recovery. The leadership appears more open to credit-based stimulus, though it is unlikely to deliver the desired results. Both fiscal and monetary measures are under consideration, and with public debt at around 80 per cent of GDP, there is room for increased central government borrowing. However, this growth model exacerbates long-standing issues such as overcapacity, low investment returns, and rising debt.
Beijing has struggled to boost domestic demand, the key engine for sustained growth, and remains committed to "common prosperity." Xi's emphasis on redistribution and frugality has dampened urban middle-class consumption, making it difficult to envision consumption as a growth driver. Exports remain crucial, but global economic slowdown presents additional challenges for China.
Chinese deflation could soon become a global concern, especially for the U.S., potentially leading to a damaging race to the bottom for American corporations and workers.
Painful Grind for China
The challenges are numerous, from the collapse of major property developers like Evergrande to declining consumer confidence, high youth unemployment, and stagnant growth. The illusion of ever-rising property values has been shattered, and the government's options are limited. Massive stimulus would risk destabilising the currency, which the leadership is unwilling to accept.China's economic recovery in 2024 will depend on stabilising the property market, reviving household consumption, improving external conditions, and restoring confidence in the economy. However, geopolitical tensions, global supply chain disruptions, and demographic challenges threaten long-term growth.
Despite the December Central Economic Work Conference's call to "promote a positive narrative" about China's economic prospects for 2024, it's difficult to argue that the economy is doing well or that the year ahead will be smooth. Xi Jinping and the leadership are committed to transitioning to a "New Development Concept" focused on high-quality growth. This shift, already challenging, is compounded by post-pandemic issues, mounting debt, employment concerns, stock market volatility, and declining confidence in policymakers.
Those anticipating a return to robust stimulus or more pragmatic policies will likely be disappointed. While targeted stimulus efforts aim to manage debt and prevent a sharp economic downturn, large-scale measures like 2008’s are unlikely.
Optimism for policy shifts surrounding the March National People’s Congress or the rumoured Third Plenum may also be misplaced. While the recent stock market downturn has added pressure, other aspects of the economy have not worsened significantly enough to prompt a sudden change in strategy.
The hope for meaningful action to address the real estate and local government debt crises persists, but resolving these issues will be painful. China's leadership seems prepared to endure more economic pain than many investors and citizens expect.
Despite some functional aspects of China's vast economy, the debt problem looms large. Without significant intervention, the currency could face devaluation, leading to further unrest.
China's future hinges on addressing the "4 Ds"—debt, demand, demographics, and decoupling. While these factors suggest potential stagnation, the outcome is not predetermined. With external improvements and structural reforms, China may still achieve sustainable growth, though the political will to enact such reforms remains uncertain.
China's economic stagnation is rooted in a combination of political choices, structural issues, and policy missteps. Xi Jinping's prioritisation of national security and technological advancement over economic growth has undermined private investor confidence. The government's industrial policy, focused on increasing self-sufficiency in high-tech sectors, has neglected domestic demand, particularly household consumption, which remains weak due to high savings rates.
While boosting technological sectors, this policy approach will likely result in slower GDP growth (around 3-4% annually) and persistent deflationary pressures, exacerbating issues in China's property market and local government debt. The government's reluctance to deregulate services, the key to unlocking domestic demand, limits broader economic growth. Consequently, China faces slower overall growth, an expansion of its technology exports, and increased protectionism from other nations.
Despite these challenges, China’s economy has historically managed to avoid crises, but its current trajectory is constrained by high debt, shrinking labour force, and inefficient financial systems
Neighbourhood Impact
As an emerging market economy, India aligns with China's trade paradigm by exporting natural resources and resource-based products while importing manufactured goods. A decade ago, India's trade imbalance with China was based on an import-export ratio of 3:1, which has since widened to 5:1. Since it is generally easier to find alternative sources of imports than new export markets, India would face less disruption than China from any bilateral trade interruption. This holds for broader economic relations, as minimal foreign direct investment (FDI) or debt flows from China to India exist.
Similarly, the United States, which also has a significant trade deficit with China, would be less affected than China in the event of a bilateral trade war.
Although official data suggests China’s GDP growth remains around 6.5 per cent, many analysts believe real growth has dropped to between 4.5 per cent and 5.5 per cent. If accurate, the global economy has already absorbed the negative effects of this deceleration. Any further decline from 5.5to 4.5 per cent would have a relatively minor impact compared to the significant drop from 10 per cent to 5.5 per cent. The direct effect on India's economy has been negligible and will continue to be.
Assuming the official 6.5 per cent growth figure is accurate, a further slowdown to 4-4.5 per cent would primarily impact countries exporting natural resources to China. Reduced global demand for natural resources would lower prices, affecting exporters. However, India would benefit from lower energy and commodity prices, with limited impact on specific sectors like iron ore and steel. Over the medium to long term, a decline in China's manufacturing profits and investment would restore the global supply-demand balance in tradable goods, benefiting India and the global economy.
Due to falling profits, China's investment, driven largely by state-owned enterprises and local government entities, is increasingly financed by credit from government-controlled banks. As China's growth slows and the credit bubble bursts, credit and investment in manufacturing will contract sharply. This reduction in excess capacity will ease price pressures on manufactured goods globally, allowing investment in manufacturing in developing countries and emerging market economies to recover gradually.
Since 2001, China has been the largest contributor to global growth, with India surpassing the United States to become the second-largest by 2008. Between 2008 and 2014, China accounted for 38.5 per cent of global growth, while India's contribution was 13.3 per cent, slightly over one-third of China's but more than double that of the U.S. The Eurozone, during the same period, had a negative contribution.
With Chinese wages rising to market levels, India's labour costs are now competitive. This could lead to a shift of labour-intensive manufacturing from China to India, particularly as excess capacity in China is reduced. Foreign investors may find India a more attractive and less risky location for production, further boosting Indian growth.
China's economy, which grew at its slowest rate in 24 years (7.5% in 2014), poses risks locally and regionally, affecting Asia's overall economic growth.India's economy, which shares 2% of its GDP with China, will be affected by a slowdown in the Chinese economy. A declining Chinese economy could impact India's consumer spending and infrastructure growth.
China imports approximately 70 per cent of its iron ore from India. A prolonged downturn in China’s real estate market could harm these exports. In addition, reduced investment from India in China could exacerbate the slowdown, while accelerated economic reforms could position India as a new manufacturing hub.
Prognosis for India
Rupa Rage Nitsure, Chief Economist at Bank of Baroda, sees China’s industrial decline as an opportunity for India to reclaim lost export markets.India's economy often likened to an elephant—slow to start but formidable in momentum—has shown resilience amidst global economic crises. Recently, India has transitioned from a sluggish pace to a more dynamic trajectory.
This optimism for India emerges during a critical time as China, once the engine of global growth, faces significant economic challenges. With its youthful population and expanding industrial base, India is poised to emerge as a potential successor.
Eswar Prasad, a trade policy professor at Cornell University, asserts that India is well-positioned for growth due to numerous reforms and increasing interest from foreign investors. Enhanced relations with Western nations, which view China with increasing scepticism, further bolster India’s appeal as a stable investment destination.
The International Monetary Fund (IMF) anticipates that the two countries will account for nearly half of global growth this year, with China contributing about 35 per cent. To surpass China as the leading contributor to global growth in the next five years, India must achieve a sustained growth rate of 8 per cent. Barclays analysts project a growth rate of 6.3 per cent for India this year, while China aims for around 5 per cent amidst its own economic hurdles.
The Modi administration is actively pursuing a $5 trillion economy by 2025, facilitating a robust business environment and attracting investments. Much like China’s earlier transformation, India is investing heavily in infrastructure, dedicating $120 billion in this year’s budget alone. Since 2014, India has expanded its national highway network by 50 per cent.
India is also leveraging its strengths in the digital sector, with significant advancements in digital public infrastructure that have transformed commerce. Programs like Aadhaar and the Unified Payments Interface (UPI) have promoted financial inclusion and streamlined transactions, benefiting millions.
To capitalise on the global re-evaluation of supply chains, India has introduced a $26 billion production-linked incentive program to attract manufacturing in electronics and pharmaceuticals. Major companies, including Apple supplier Foxconn, are expanding operations in India as a result.
Despite this progress, experts caution that India is not replicating the rapid growth experienced by China in the late 20th century. Challenges remain, such as bureaucratic hurdles and unpredictability in foreign direct investment policies, which differ from the more streamlined processes seen in China's earlier economic liberalisation.
Assessment
China's economy, which grew at its slowest rate in 24 years), presents risks not only domestically but also regionally, impacting overall economic growth in Asia. Given that India's economy is linked to China sharing 2 per cent of its GDP with its
neighbour
, a slowdown in China will likely affect India's consumer spending and infrastructure development.
Although India is making strides toward becoming a significant player in the global economy, it faces hurdles in matching China’s historical scale of investment and consumption.
I
t would take years for India to catch up in these areas. Nonetheless, India is positioned to influence the global economic landscape, albeit not in a manner sufficient to counterbalance any significant downturn in China's economy fully.
There is an opportunity lying out there for India to grab, provided the Indian government and its corporations have the wisdom and grit to grasp it.
