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  • Dec 27, 2014
  • Updated: 6:01am
PUBLISHED : Friday, 21 September, 2012, 12:00am
UPDATED : Sunday, 23 September, 2012, 8:03am

The real extent of China's economic hard landing

A look at the figures shows the mainland is paying the price for having severe industrial overcapacity amid suppressed domestic demand

The cynical explanation for the rash of anti-Japanese demonstrations that spread across China this week is that Beijing encouraged the protests, or at least allowed them to go ahead, in order to take people's minds off what is going on at home.

And what is going on at home is not just an unseemly power struggle ahead of the approaching leadership transition, but an uncomfortably hard landing in China's domestic economy.

Behind China's slowdown lies the enormous investment boom of the last few years.

On one hand, headlong investment has created severe overcapacity in a swathe of industries, overcapacity that is now weighing on prices.

On the other hand, government efforts to rein in runaway property prices have suppressed domestic demand.

The result of this simultaneous supply glut and demand deficit has been an abrupt swing from rising prices to deflation.

The switch doesn't show up in consumer price inflation, which edged up to 2 per cent in August from 1.8 per cent the previous month.

But considering that household spending makes up only 35 per cent of China's economy, consumer prices are the wrong measure to look at.

With fixed investment and exports together equalling 73 per cent of gross domestic product, the corporate goods price index is a better indicator of what is really happening on an economy-wide scale.

And this shows the rate of inflation collapsing from 9.7 per cent last summer to minus 3.7 per cent in July this year.

Meanwhile, wages are still rising at double-digit rates (see the first chart).

Part of the increase is justified by gains in productivity, which is reckoned to be improving at a rate of around 5 per cent a year. But that still leaves unit labour costs rising at an annual rate of 6 per cent even as factory-gate prices are falling.

The result is a severe squeeze on corporate profit margins, which is discouraging private sector investment.

The conventional response would be to cut interest rates. But with China already facing capital outflows and the banks struggling to attract depositors - the growth rate of corporate deposits slumped to single digits in August from 73 per cent a year earlier - room to reduce rates is limited.

As a result, China's real borrowing rate - that is the borrowing rate minus the inflation rate - now stands at a crippling 9.7 per cent.

The consequence has been a sharp slowdown in economic growth.

Again, this hard landing doesn't show up in the official figures for real growth, which indicated a healthy 7.6 per cent year-on-year rate of expansion in the second quarter of the year.

But according to Charles Dumas, chairman of economic consultancy Lombard Street Research, this number is not be trusted because Beijing only publishes an isolated figure for the growth in real GDP without releasing any data about the level of real GDP to support it.

Working with the only hard numbers the government does publish - the level of nominal GDP - Dumas has constructed an economy-wide deflator in an attempt to derive China's true rate of real GDP growth.

According to his analysis, China's real quarter-on-quarter growth rate sank to 0.4 per cent in the second quarter of the year (see the second chart). That equates to an annualised growth rate of just 1.6 per cent - a hard landing by anyone's standards.

Activity should pick up slightly towards the end of the year in response to renewed stimulus efforts.

But Dumas warns that growth is likely to slacken off again next year when consumer spending - now growing strongly thanks to generous wage increases - falters once shrinking corporate margins slow the pace of pay rises.

Perhaps the cynics should look out for another outbreak of nationalist outrage come the new year.



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This article is now closed to comments

China stocks market is still 60% below its pre crash peak that probably explains what happen to the economy. Big banks have probably not written down loans yet according to America or European standards, otherwise I guess the earning with not be a earning...
If you look at the retails like Li Ning and Gome, you probably can gauge how bad is the consumer spending? That is some numbers that the government can not play with.
Also, check Out most of the USA listed ADR, you will see stock price are down anywhere 50 to 80% in 52 weeks because profit is down. Does this tell you something?
70% plus of USA GDP is consumption related and that is more than combined double GDP of china so if USA and European is not spreading money, guess who is suffering. With Europe slowing down, 2 big customers are not buying so guess who is suffering the most? No brainier.
China has a handsome reserve of $3T but with a population of $1.3b so if china hand out the money is only us$2300 per person. How many bridges and road it can build for each person with that money if china is not changing the model? But not easy with aging population and one spoiled child policy...
I'm just glad I will be in Hong Kong and not China next year. No telling what the Communist party is going to do once all gel breaks loose when the economy tanks.
"As a result, China's real borrowing rate - that is the borrowing rate minus the inflation rate - now stands at a crippling 9.7 per cent."
This is a load of baloney. Known as the "Fisher effect" bean-counting economists should toss this theory into the rubbish bin, where it belongs. For a start nobody anywhere in the world has come up with method of accurately measuring "inflation" which is agreeable to all thinkers. Most publicized national inflation figures are simply engineered political propaganda.
Who says China's inflation rate is minus 3.7%? And over what period ... one day, one month, one year?
Wages are still rising, yet property has been heading the opposite direction for some time now (kudos to the Chinese government for engineering the gradual deflation of this asset bubble, unlike the stupid Europeans and Americans who prefer to stumble from boom to bust, complain about the pain and then repeat the scenario a decade later)
Published statistics is one thing which may not be reliable to begin with. Anyone living in China who understands basic economics may know that the economy is in dire strait:over-capacity and over-investment in infrastructure, real properties, and basic and heavy industries in face of declining exports, stagnation and decline of the private sector, and middle- and lower-class income against price inflation of food and staple goods. The tremendous imbalance of the entire economic structure is now coming home to roost.
"Published statistics is one thing which may not be reliable to begin with. "
Well said huikythanlink!
Do readers know that average statistics are only 67.673333 % correct plus/minus an error of 4% ?..............hmm


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