In the third quarter of 2015, Chinese authorities confirmed that growth had dipped below 7 percent – an announcement that had equity markets reacting sharply and negatively. Because China is a significant driver of worldwide demand, particularly for commodity- based economies, economists explained that the decrease in demand would put the brakes on resources, justifying a greater than 50 percent decline in major commodity prices. Given, however, that a Chinese growth rate of 8 percent was previously considered to be miraculous, it seems rather surprising that a 1 percent reduction, would have such a negative leverage effect. So what’s causing the reaction?
Many would argue that it’s the accuracy of the figures themselves. The argument goes: the Chinese stock markets are manipulated; from restrictions on selling, to extensive state-operated programs of forced- share acquisitions. Of the major world economies, China is the only economy within a political system that has remained utterly undemocratic; no further advanced than it was in the days of Tiananmen Square, with a state renowned for its economic intervention. So, it wouldn’t be unfounded to question the integrity of numbers quoted in the ‘official’ growth rate.
Opacity, however, is not a sufficiently satisfying argument – nor are excessive bad-debt levels. The rate of 6.7 percent that China is now growing at seems extraordinarily robust in comparison to any other of the major world economies; US growth sits at 2 percent, and the entire Euro region has slipped down to 1.5 percent. So the question remains: why would a drop of 1 percent from a high of 8 percent, two years prior, lead to such a significant decline in demand?
The answer lies in the make-up of Chinese growth. Of the three main sources of demand: the state, consumers and business, China has an inordinate reliance on the state. In other major world economies, the state constitutes a third of total demand. In China, state demand constitutes over 60 percent of GDP.
If one postulates that the Chinese government’s portion of overall GDP has continued to grow at previous rates, then one can ignore the 60 percent portion of the 8 percent growth as state-driven (i.e. 5 percent of the rate itself ). What remained then, in terms of consumer and business demand in 2014, was a 3 percent growth rate. In that case, assuming that 5 percent growth remains state spending, non-state driven demand grew at a paltry 1.7 percent. That’s almost a 50 percent decline – and there’s your explanation for the decline in commodity prices.
What’s next for China’s economy is also up for debate. The Chinese economy is a miracle, goes the argument. China will now turn to its own consumers, selling goods to its newly-created middle class. But, this argument is inherently naive. It ignores the truth of the Chinese miracle: that, at its centre, there is no democracy.
Sure, the Chinese system is sometimes referred to as a new form of capitalism that does not require democracy. On the contrary, it is only within a one-party state that such a high degree of government demand could possibly occur. In a true democracy, there are necessary opposing forces, debating their opposing agendas. This results in better investments, greater dependence on business, and more innovation.
In China’s case, the government is the main driver of its growth. It forces non-profitable businesses to keep going, by rolling debt, and orchestrates mega-projects, irrespective of consumer demand. There is only one way this ends: with a debt overhang that will take a decade or more to unravel. The single-party state will endure longer. And many of its empty cities will remain just that, empty.