Janet Yellen’s unwillingness to raise interest rates in her September decision brought to light the fragility and dependency of the United States’ economy with China. She invoked 16 times during her speech that problems in China had the potential to drag down US growth and until she felt comfortable with the downside risks of such a drag, would leave rates unchanged. Christian Lagarde, chair of the IMF compounded the effects of Yellens ‘hold’ interest rate decision after stating that the IMF is ‘worried’ about the spillover effect from the problems the Chinese economy is facing. The effects of the Chinese slowdown are clearly influential on the world’s economies but how serious is this problem and what can they do to recover from it.
The Chinese stock market collapse in June earlier this year has seen the market down 40% from its peak. This has spooked many investors and has come at a time when monetary and fiscal policy currently employed was seen as supportive- this serving only to exaggerate its impact. Manufacturing decreased in the period of July-September, the Renminbi was devalued in August and the debt to GDP ratio has reached 250%.
Issues with Monetary Policy and the Real Estate sector within Chinese Economy
The slowdown in the Chinese economy has been significantly influenced by their strangling monetary control and faltering Real Estate sector. After the 2008 crisis the PBOC pumped huge amounts of liquidity into the economy which ran into the Real Estate and Shadow banking systems. With the help of a US dollar pegged currency, Chinese economy has, until recently, ran a GDP growth figure of 10%+ p/a but at the cost of a real estate sector that has huge levels of debt, leverage and now oversupply. The overproduction of raw materials has caused 30% overcapacity, triggering loan defaults and foreclosures in the commercial, residential and industrial property sectors. These factors are causing firm closures, decreasing FDI and a reduction in GDP. Keynesian economics suggests plenty of ‘outs’ of economic downturn by strict government intervention but this could reveal floors in the communist regime and would consequently never be explored.
Is there a resolution?
In order to tackle these ever growing problems China need to focus on their 3 ‘Mache’- Investment in Infrastructure, Exports and Domestic consumption. The first 2 can be tackled by government policy but a nation of savers creates difficulty when trying to increase domestic consumption. Many argue that China’s focus is now on quality and not quantity and that ‘market perceptions are more divorced than ever’. Chinese economy have huge levels of bank assets(10x GDP) allowing their survival of this downturn in the short/medium term, but serious reform and strict monetary policy Is required to combat the many fundamental floors of their economic system and I have only scratched the surface.
Many argue that China’s focus is now on quality and not quantity and that ‘market perceptions are more divorced than ever’. China have huge levels of bank assets(10x GDP) allowing their survival of this downturn in the short/medium term, but serious reform and strict monetary policy Is required to combat the many fundamental floors of their economic system and I have only scratched the surface.