Politics
China’s economic divide widens in the era of protectionism
The fault lines within the Chinese economy, seemingly on the right track, are widening.
While the 5 percent growth reported this week For the first half of this year, it was well within Beijing’s target range of 4.5 to 5 percent, the growth rate of 4.3 percent in the June quarter was the country’s weakest since the pandemic.
Since the pandemic and the housing market collapse that overlapped with it, China’s economic story has had two very different threads. Exports boomed while the domestic economy contracted. It seems that this year, this gap is increasing.
In June, Chinese exports totaled about $288 billion, a record and 27 percent more than a year earlier.
Despite a 36 percent rise in imports – fueled by global demand for electronic inputs for artificial intelligence – China is on track to record a new trade surplus of more than $1 trillion this year.
The weakness in the June quarter – the worst since the fourth quarter of 2022, when China was still facing draconian COVID-related lockdowns – was driven by a continued decline in fixed asset investment, an 8.5 percent drop in private sector investment, stagnation in retail sales (including a 16 percent drop in auto sales), and further declines in real estate investment and house prices.
With China’s growth slowing again, the pressure on Beijing to do something substantial to increase domestic consumption will only intensify.
China may also have been affected by the effects of the war in the Middle East.
The closure of the Strait of Hormuz and the resulting surge in oil prices posed a threat to the energy security and economy of China, the world’s largest oil importer and Iran’s main customer.
President Xi Jinping, however, has made self-efficiency an economic priority, and China has enormous oil and gas reserves to rely on.
Beijing suspended exports of petroleum products and capped pump prices for consumers, but rising fuel prices and energy-saving measures may well have been a factor in slowing domestic activity in the June quarter.
Weakening domestic demand has been a feature of China’s economy since the housing bubble burst in 2020, when Xi imposed its “three red lines” policy to restrict the influence of developers.
This collapse of the real estate market and overinvestment in infrastructure have left Beijing without the two major levers it was able to use in the past to stimulate the national economy.
With much of China’s household wealth tied up in real estate, the wealth effects of free-falling property prices have been devastating, leading to consumer caution and domestic overcapacity despite Beijing’s repeated (if relatively conservative and piecemeal) efforts to boost spending.
It has also forced Chinese companies, private and state-owned, to turn to offshore markets to absorb excess capacity, fueling growing discontent in key target markets.
Whether it is the United States with the tariffs imposed by President Donald Trump, or the European Union, which is also considering raising the level of its trade barriers, there is resistance to the tide of cheap Chinese exports, a tide diverted by Trump’s tariffs towards other, less protected economies.
With China’s growth slowing again, the pressure on Beijing to do something substantial to increase domestic consumption will only intensify, although the fact that overall first-half growth is within its target range could mean it waits until later in the year.
In recent years, the government has waited until the fourth quarter to act to increase spending and meet its official growth targets, which it still does, although there is some cynicism about the accuracy of the reported figures.
Chinese policymakers have generally treated weak domestic demand as a secondary problem, prioritizing exports, investments in high-tech manufacturing and, increasingly, AI and its deployment across the economy.
On Monday, however, policymakers placed a higher priority on household spending, outlining a five-year plan to increase it by nearly 20 percent by 2030. It was the first time that Beijing established a multi-year consumption plan.
Its policymakers have not specified how they will do this, referring to “targeted, more proactive and effective policies”, but in the past measures have focused on encouraging consumers to trade in their old appliances and vehicles for new ones, providing concessional financing to try to increase mortgage sales and consumer purchases, and overhauling social safety nets to increase confidence.
Most of these measures have been limited and fall far short of the scale of measures advocated by most Western economists for years to achieve a better balance between domestic and foreign activities. In most developed economies, consumption represents around 60 percent of GDP. In China, its share is around 40 percent.
China’s demographics add to China’s challenge. Its population is aging and declining. Some estimates indicate that it will decline by around 75 million people per decade over the coming decades and that the working-to-retiree ratio will fall by half by 2050.
This shrinking workforce could explain why Xi has so emphasized and subsidized investment and promotion of AI and advanced technologies. To continue growing the economy and avoid social tensions and distress among a growing population of retirees, China will need to do more with fewer workers.
For now, and for some time to come – unless it can increase consumption among its vast consumer base – China remains dependent on its export-led growth strategy, which some see as Critics call strategy “dumping”.
Part of the increase in exports in June may reflect recognition that the strategy is vulnerable to negative reactions from export markets.
Aside from the Europeans, who last month discussed plans to expand import quotas and tariff coverage for products from China and speed up processes to prevent dumping and unfair subsidies, Chinese exporters are said to be very aware of the July 24 date.
This is the date on which Trump’s temporary 10% tariffs on all imports (an interim measure introduced after the US Supreme Court ruled that his “Liberation Day” tariffs were illegal) are due to end.
Using different legislation, such as sanctions for not having enough legislation preventing the manufacturing of goods made with forced labor, or for having policies in place that “burden or restrict” U.S. trade, the United States will then impose individual tariffs on each economy.
Some could still benefit from the 10 percent rate, others from 12.5 percent and some could face much higher tariffs. China does not expect soft treatment, so there may have been an element of “front-loading” of exports to the United States, whether directly or through third countries, to get ahead of higher tariff rates.
If this is the case, it will become clearer when September quarter data becomes available.
Yet Beijing’s belated attempt to develop a five-year plan to boost domestic consumption indicates that it is increasingly aware of the risks to its strategy of export-led economic growth in an era of protectionism.
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