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The Risk of Imbalanced Economic Growth in China

by Zhang Jun

If there were one sentence that can be used to describe China’s growth, it must be: ‘China’s growth hinges on the rest of the world’. The remarkable growth of China in recent decades has substantially changed the picture of the global production chain, and is now challenging the global trading system; though the world—the US for short—isn’t ready for China’s ascension in the global economic system. Assuming China continues to maintain its growth momentum over the next two decades, at the rate it is currently developing, the global economic system faces a lot of big challenges. But the fundamental question worth raising is not whether we can avoid a global imbalance as such, but how serious the imbalance would develop to be.

Much of the growing concern in the past few years over the US imbalanced current account and fiscal budget focused on the dollar peg of Chinese currency, and the US exerted considerable pressure on Beijing to make its currency float. China sees a stable exchange regime favorable to its current source of growth, and may definitely not want to make a big leap forward even after the decision of a 2.1 per cent revaluation which was finally came on 21 July 2006. China also sees the transition to a flexible regime contingent on its alleviation of structural problems for which it is extremely difficult to set a timetable.

The past decade has seen a slowdown of structural adjustments for China’s inner sectors, mainly due to political constraints. The banking system is still unhealthy and fragile, capital markets are dying. The growth of a dynamic private sector is largely hindered by its inability to invest in what the government still monopolizes. Increasing regional disparity as well as an urban–rural divide stagnate the consumption boom. This increases the existing dependence of economic growth on exports promotion and encourages foreign direct investment-related infusion.

An article in a recent special issue edition of Business Week on China and India believes that the Chinese need to

… get ready for the next industrial leap. For years, China has been the cheap assembly shop for the world’s shoes, clothing, and microwave ovens. Now, it is laying the groundwork to become a global power in much more sophisticated, technology-intensive industries that also demand tons of capital. Billions of dollars are flowing into auto, steel, chemical, and high-tech electronics plants. Driving this massive spending push is voracious domestic demand for all manner of goods as well as a big shift by multinationals to manufacture in China. As a result, China is rapidly becoming more self-sufficient in key materials and components, and setting the stage to be a major exporter of high-end products [Business Week, 22-29 August 2005, pp. 88-89].

Well, it is fascinating to the Chinese indeed. This conjecture seemingly and implicitly suggests a need for the global trading system to make more room for a rising China (if not including India or others). But at the same time we must bear in mind that China has enormous inner structural issues to overcome before making such export-led growth really sustainable.

The rapid investment-driven growth in the past decade has produced the stockpile of excessive capacity, as evidenced by soaring nonperformance loans in the banking sector and the zero growth of CPIs [consumer price index]. Excessive capacity is both due to and a benefit of the structural problem. Excessive capacity of production leads to price wars, squeezes the profitability for manufacturers, and activates the asset sector, real estate.

Delaying structural reforms will eventually slow down the economy. The Japanese experience in both the 1980s and 1990s suggests a key lesson: the existence of a structural problem contains growth in the long run. China has similar problems. The investment–growth nexus in the short run has helped create the monetary overhaul and threatened macro stability, as manifested by recent overheating in the year 2003– 04. In this regard, China faces tremendous challenges in managing its macroeconomic stability under the export-led growth regime. Given the size and rising share of China’s purchasing power in the global market, macro instability in China exacerbates the fluctuation of global equilibrium prices of basic commodities and raw materials.

But given the nature of this issue and political reality China, however, faces a dilemma between structural reforms and rapid growth in the short run. Structural reforms call for fiscal consolidation and abrupt closure or restructuring of inefficient banking and state enterprises, which create short term downturn pressure on growth, and of course destabilize society.​

This may explain why there has been an increasing necessity for Chinese enterprises to ‘go global’ in recent years. It is apparent that going global is increasingly seen as an alternative to domestic structural complexity and becoming a rebalancing tactic for the Chinese in the next decade to participate in the global economy. But this strategy will cost, as it did in Japan twenty years ago. Embarking on an aggressive overseas buying spree upsets established international balances of interests, creates much more friction with the rest of the world, and hides the seriousness of structural problems.

So a strong argument could perhaps be made for a focus on the structural issues. First, this would allay some of the fears of the rest of the world about China’s rise; second, this would win much applause from the international business community who will smell the profit to be made in biding on contracts to improve the structural issues. Thus, rather than scaring these corporations and their respective states, China will retain a strong outside lobbying force and financing for its continued development. And, third, China must effectively solve the structural obstacles before it can carry out its rapid growth into another decade or two. Truly secure and sustainable economic development in China has to build a large consumer driven base if it is ever to have some degree of independent operation in the world economy.

Undoubtedly, with China’s rise, global imbalance as such can take longer to change and to adjust collectively, simply because the US welcomes the economic rise of China and sees its growth in its own interest. China needs and can continue its rapid growth with a careful manipulation of its domesticbased policies. The timely shifting of China’s focus upon, and the effective working with its serious structural problems within, satisfy both Chinese and global long term interests.

Professor Zhang Jun is Director, China Center for Economic Studies, Fudan University. He was a Sabbatical Fellow at WIDER in 2004–2005.