Facing Up To Risks Despite its economic success, concerns linger about whether China will continue to maintain sustainable development

By Lan Xinzhen

Facing Up To Risks Despite its economic success, concerns linger about whether China will continue to maintain sustainable development

By Lan Xinzhen

The report on China Economy and Finance Outlook (Q2 2012) released by the International Finance Research Institute with the Bank of China (BOC) on March 28 bluntly pointed out the top four risks to China’s economy, namely, excessive production capacity, volatile position for foreign exchange purchase, shrinking credit growth rate and the real estate bubble.

While other research institutes, such as the International Monetary Fund and the Institute of Economics under the Chinese Academy of Social Sciences, are expressing optimism about China’s economic outlook, the BOC report reminded people to focus more on the risks and malaise in the Chinese economy than the abundance of positive information.

In fact, the influence and impact of the economic growth of China, the world’s second largest economy, on the rest of the world have never been overstated, especially when other major economies have yet to recover from the fnancial crisis.

Warning signs

In the BOC report, overcapacity topped the major risks in the Chinese economy. Overcapacity has become increasingly problematic in China, with some major industrial products seeing prices plunge, sales-output ratio decrease, profts decline and losses increase, said the BOC report.

The fact is that excessive production capacity is to blame for the price plunge. In China’s steel industry last year, domestic demand for crude steel was 660 million tons, while the total capacity reached 770 million tons. Serious overcapacity forced the price of iron ore and steel products to plummet. Last September, the China Iron Ore Price Index stood at around 600. Six months later it plunged to 480. During the same period, the Composite Steel Price Index decreased by more than 10 percent from 135 to 120.

According to Huang Zhiqiang, Director of the International Finance Research Institute of the BOC, at the micro level, overcapacity will cause low utilization of capacity, waste of economic resources and low effciency in business operation. At the macro level, overcapacity prevalent in many industries will cause a dramatic decline in the general price level, mounting pressures of infation, low investment assumption and fragile consumer sentiment. These will put pressures on economic growth, drive up non-performing assets in the banking sector and send up warning fares for fnancial risks.

ZHANG JIANCHENG

“Although some of these negative effects have not taken place, we need to take preventive measures,” said Huang.

The BOC report also included a position for foreign exchange purchase as one of the major risks in the Chinese economy.

“The dramatic fuctuation in China’s position for foreign exchange purchase made it hard for its central bank to create an effective monetary policy,” said the BOC report.

The so-called position for foreign exchange purchase, which is mainly the central bank’s purchase of foreign currencies from commercial lenders in the interbank market, is often used as a measure of capital infows to China.

According to data released by the People’s Bank of China (PBOC), China’s central bank, the country’s forex purchasing position increased 25.1 billion yuan ($3.98 billion) in February, a dramatic decrease compared to 140.9 billion yuan ($22.37 billion) in January.

Most financial analysts estimated that China’s position for foreign exchange purchase will total about 2 trillion yuan ($317.46 billion) this year, far lower than the average level of 3 trillion yuan ($476.19 billion) in the past several years.

“The decrease in position for foreign exchange purchase was the result of weakening yuan appreciation expectation. The stronger the yuan appreciation expectation, the higher the position for foreign exchange purchase,” said Huang.

The biggest change that comes along with the position for foreign exchange purchase decrease is that the central bank will have bigger space to adjust its monetary policy, which is conducive to ensuring the healthy development of the Chinese economy.

But other worries have arisen. With the European debt crisis generally under control, with excessive liquidity constantly provided by developed economies and with the Chinese economy free from the fear of a hard landing, hot money infow will continue to bother Chinese monetary policy makers.

According to the PBOC, gross yuan loans outstanding increased 15.2 percent year on year to 56.24 trillion yuan ($8.93 trillion) in February, down 2.5 percentage points from a year earlier. Chinese financial institutions issued 710.7 billion yuan ($112.81 billion) in loans in February this year, up 173 billion yuan ($27.46 billion) year on year. The lower-than-expected fgure for new lending was down from 738.1 billion yuan ($117.16 billion) in January, and below the 800-billion-yuan ($127 billion) growth predicted by many economists. Analysts said the anti-infation efforts will also restrain the possibility of major credit increases in the future.

“The lower-than-expected lending triggered concerns that industrial production and fxed asset investment may decrease and fnally cause a sharp slowdown in the economy,”said the BOC report.

While Chinese residents suffer from property price hikes, the BOC report also listed it as the major risk endangering the Chinese economy.

The BOC report said that housing prices have come down and sales picked up in China, which shows that the government’s efforts to prevent the Chinese property market from overheating have enjoyed success.

On the other hand, housing prices are still too high for average people and many people’s reasonable consumption was affected by the adjustment measures, which store up problems for the burst of the property bubble in the future, and its effect on the Chinese economy will be widespread, said the report.

Differing views

While the BOC warns of the risks and malaise in the Chinese economy, other research has provided reasons to be sanguine. International Monetary Fund (IMF) released its latest Global and Regional Economic and Financial Outlook on May 8 in Beijing. According to the IMF report, the world economy is expected to improve during the latter half of this year and China will see an average 8.2-percent growth in its economy this year. It also predicted that China would not suffer a hard landing this year and its growth would pick up in the second half of this year.

According to fgures released by the National Bureau of Statistics and China Federation of Logistics & Purchasing, China’s purchasing managers’ index for manufacturing rose to 53.3 in April, the highest in more than a year. That also marks the index’s ffth straight month above the 50 level, which of course signals an expansion of industrial activities across China.

Cai Jin, Vice President of China Federation of Logistics & Purchasing, said, “We believe the fve consecutive months of increases in the PMI number, though in a narrow margin, shows that China’s economic growth in the second quarter will be stronger than in the frst quarter.”

According to Dong Xian’an, chief economist at the Beijing First Advisory Co. Ltd., the biggest risk for the Chinese economy is lackluster overseas demand.

China’s foreign trade rose 2.7 percent year on year to $308.08 billion in April, with a surplus of $18.42 billion, the General Administration of Customs said on May 10. The growth rate represents a slowdown from the double-digit rate logged before the financial crisis in 2008. Exports amounted to $163.25 billion in April, up 4.9 percent year on year, while imports edged up 0.3 percent to reach $144.83 billion.

At the same time, the spring session of the biannual Canton Fair, or the 111th China Import and Export Fair, closed on May 5, with export transactions down for the first time since 2009.

Debt crisis in EU countries and the tough job market in the United States were among the factors causing the decrease, said Liu Jianjun, spokesman with the fair.

ZHAO TINGTING

For a good number of Chinese exporters, this year’s grim trade figure is not something new. Ever since the financial crisis in 2008, China’s export sector has been declining. What they can do is to upgrade their business operation amid diminishing international competitiveness.

According to Jiang Yong, a researcher with China Institutes of Contemporary International Relations, the biggest risk for the Chinese economy is its overdependence on the United States.

“Despite the fact that interdependence has been used to defne Sino-U.S. relations in recent years, a serious asymmetrical dependence prevails. China has been too dependent on the United States in market, technology, brand, marketing, fnance, talent and even in ideology,” Jiang said.

While China relies heavily on the world’s biggest economy, it has lost its freedom and independence in policy making because the United States is able to control China via various means, such as anti-dumping and antisubsidy probe, accusing China of foreign exchange rate manipulation, intellectual property protection default and labor use abuse.

“China has found itself in a passive position under attack. If we don’t get rid of our overdependence on the United States, we will not be able to get out of the current predicament,” Jiang said.

Facing the risks

Compared with the long-term looming risks, the current economic downturn is the biggest obstacle that needs to be addressed. The growth rate of the Chinese economy has been declining for fve consecutive quarters. As long as there is no large adjustment and reform and the contradiction of overproduction is not resolved fundamentally, the trend will continue and will be diffcult to revert, said Wang Jian, Vice President of China Association of Macroeconomic Research. According to Wang, the problems that bother the Chinese economy could not be solved by fne-tuning macroeconomic policies.

“Minor reforms do not work. We need structural adjustment in the real sense that changes the intricate interest structure,” said Wang Jian. For Wang Xiaoguang, a researcher from the Chinese Academy of Governance, an advisory body to the Central Government, the best treatment for the Chinese economy is change in the growth mode through strategic adjustment to the economic structure.“China started its economic restructuring several years ago, but its efforts did not pay off as expected. What we need to do now is to cultivate a macro-environment that encourages structural adjustment, self-dependent innovation and an energy-saving industrial system,” said Wang Xiaoguang. The BOC report called for fine-tuning of China’s macroeconomic policy while insisting on an active fiscal policy and stable monetary framework.

“Fiscal policy should be more active with focus on optimizing the distribution structure, structural tax reductions and tax reform. Monetary policy should gradually loosen its

lanxinzhen@bjreview.com grip while ensuring a reasonable market liquidity through deposit reserve ratio adjustment and open market operation,” said BOC report.

Gloomy economic readings offer a “positive signal of encouragement” for further adjustment in the monetary policy.

“Today the slowdown of the GDP growth rate, eased inflation pressure, sluggish overseas demand and SME’s fnancing diffculties all call for our monetary policy to be more effective,” said the BOC report.

The BOC report claimed that special measures should be taken to prevent the decline in some major industries and projects.

“The country needs to issue more favorable policies to support the construction of affordable housing, railways, water conservancy and other infrastructure projects. In addition, the country should consider the possibility of reducing interest rates after the efforts of combating inflation pay off,” said the BOC report.

The report said that the possibility of a sharp decline in the Chinese economy is minute. China will see a slight increase in economic growth in the second quarter, driven by improved external environment and the regulation and control of the Chinese Government. The report forecasts growth of 8.4 percent in GDP in the second quarter compared to 8.2 percent in the previous quarter, but a decrease of 1.1 percent compared to the same period last year. Meanwhile, China’s consumer price index is expected to grow by 3 percent in the second quarter.