China Faces a Perilous Transition

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China Faces a Perilous Transition

The trajectory of China’s growth and accomplishments over the past three decades is hard to ignore, and projections of continued growth seem, on the surface, to be safe assumptions. After all, in 2010, China’s manufacturing output, energy use, and car sales surpassed that of the U.S. In addition, for the past 20 years, its military spending grew, on average, 16 percent each year. Based on these and other statistics, the IMF has predicted that China will become the world’s largest economy in 2017.

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This possibility of China becoming the leading economic superpower in the world elicits different reactions from different people. To some, it’s a negative because China’s ascendance would mean the loss of America’s influence and power abroad. Others see it as a great business opportunity. Still others around the globe would welcome any change that would knock the U.S. down a peg or two.

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But a closer examination of the factors lining up in China reveals that growth anywhere near the pace of the past 20 years is far from certain.

First, the model that has delivered China’s success up to this point is starting to run out of steam. Because this model ties the country’s growth to exports, the global recession has inevitably caused an economic slowdown. The demographic and financial problems in Europe call into question the growth of consumption in major markets served by China. So, the only long-term answer has to be a shift to a consumer-based economy.

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As incomes have risen and a middle class has begun to emerge, there has indeed been a clamoring for consumer products in China. However, consumption is currently only 34 percent of GDP, down from 46 percent 10 years ago, and still dropping. Meanwhile, in the United States, consumption’s share of GDP is roughly 70 percent.

Instead, China’s fixed investment has grown faster than GDP; it now makes up 46 percent of GDP.

Without a rise in consumption, growth continues to be investment-led, and this is beginning to present serious problems. A key one is that there are simply not enough economically viable projects in which to invest. Consider the recent wave of fixed investment in real estate that has left China sitting on a gigantic property bubble that’s ready to deflate.

The Chinese government would prefer to see consumption take off in China, weaning the country from its reliance on exports and investment-led growth.

 

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But a smooth and quick transition to a consumer economy will be virtually impossible, because over the next several decades, China will be forced to deal with three additional major crises as they unfold...

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