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Is "New Normal" Enough to Grow China's Economy?
By Advisor Perspectives
While the news headlines continue reminding us of China’s stock market woes, investors should dig deeper to understand the economic underpinnings that can spark growth in China—and, in turn, present opportunities for growth seekers.
The Chinese economy recently entered a slowdown period, with reported economic growth rates falling to around 7% and as low as 5.3%, according to some economists’ calculations. While this may seem robust from a developed markets perspective, it is a far cry from the years of double-digit growth rates China had previously enjoyed. Slowing growth is problematic for the nation, as high rates of economic activity are needed to absorb the influx of labor into the country’s burgeoning cities and to use the massive production capacity China installed over the past decade.
The Beijing government is acutely aware of the problem. When new leadership took over in 2013, it adopted the term New Normal to reflect the nation’s current economic reality and rejected calls for further stimulus measures. However, since late 2014, the slowdown of economic activities has intensified. The question for now seems to be, is New Normal enough? And if not, what are the long-term solutions for reigniting China’s economy?
Assessing China’s short-term economic fixes—supportive, but not enough
In recent months, Chinese policymakers have dramatically stepped up efforts to support the economy:
The People’s Bank of China slashed the reserve requirement ratio for banks twice and cut interest rates several times.
The central government injected fresh capital into the country’s three policy banks to support lending for infrastructure projects, trade, and agriculture.
The Ministry of Finance launched a local-government debt swap program to replace high-cost bank borrowings with local-government bonds.
In addition, housing policies were relaxed to support the slumping property market.
Despite the Chinese government’s best efforts, the results of its policies are mixed. Economic growth continued to slow in early 2015. Major macroeconomic indicators, such as the Purchasing Managers’ Index, retail sales, and fixed investment, remained sluggish.
Government officials also implemented a number of policies aimed at supporting the stock market, including the Shanghai–Hong Kong Stock Connect program, which expands foreign investors’ access to the domestic market and domestic investors’ access to Hong Kong–listed securities. It appears the government has been trying to use the stock market as a stimulus to channel savings into the corporate sector, and direct financing through the stock market was encouraged over indirect financing through the banks. This drove a massive rally in Chinese stocks through May 2015. But even then, the rally was due, in part, to a buying frenzy among local Chinese investors, and the stock market’s absence of fundamental drivers suggests that a substantial speculative element was at play.
Today—without fundamental growth drivers in place—China’s markets have collapsed into bear-market territory, exposing the fragile foundations on which the recent bull market was built. Investors who follow China are likely to see a tug-of-war between speculative fervor and tepid fundamentals for some time.
China’s long-term economic solution—focusing on the middle class
The root cause for China’s slower growth is a decline in investment activity, primarily in infrastructure and property. Unsold apartments are piling up across the country, and municipalities have indigestion from a decades-long, debt-fueled spending binge in anticipation of growth that neve