ince the first quarter of 2010, China has experienced continuous economic slowdown. Lasting for 11 years, its annual growth rate dropped from 10.3 percent in 2010 to 5.1 percent on average across 2020-2021. It is a worrying sign, as China’s advantages over the US in terms of economic growth have greatly narrowed, and its growth rate has fallen behind India’s.
China’s high-level growth rate in the past led to it becoming the world’s second-largest economy. Without this rapid growth, China would not have been able to increase living standards, address social problems or maintain social stability. In short, whether China can maintain high-level growth is not just an economic issue, but a geopolitical one as well.
For many economists, China’s economic slowdown is caused by structural issues. After four decades of economic growth, China is challenged by problems such as an aging population, environmental pollution, depletion of natural resources, decreasing returns to scale, an enlarging wealth gap, and changes in behavior by consumers and investors. It is believed that most of these issues cannot be reversed by expansive macro-economic policies.
While structural issues do have an impact on the growth rate, it cannot explain fluctuations in the growth rate between different quarters and different years. Moreover, structural changes do not always have a negative impact on economic growth and can often offset each other. For example, the emergence of the internet economy and AI technology can mitigate the impact of the aging population. While structural issues may contribute to economic slowdown in the long term, it does not explain why the growth rate has dropped to 5 percent, instead of 6 or 7 percent.
Besides the alleged structural issues, a major reason behind China’s economic slowdown is concerns over inflation and financial risk, which has led to a very cautious approach to adopting expansive fiscal and monetary policies. Compared to the long, gradual trajectory of advanced economies, such as the US and Japan, China’s exit to expansive policies appears more abrupt.
Nobody really knows what a reasonable and sustainable growth rate for China would be, as it can only be understood through trial and error. If expansive policies had already led to runaway inflation and financial instability, China would have needed to accept a relatively low growth rate. But if inflation is under control and there is no serious financial instability, China needs to adopt more expansive measures to achieve faster growth.
Many are concerned about the relatively high leverage of the Chinese economy, which is due to China’s high savings rate. A major problem of China’s economy is that it cannot turn its high savings rate into domestic investment and consumption. The result is that China has had to resort to exports in return for high foreign exchange reserves. But with rising geopolitical tensions, the security of China’s foreign exchange reserves are under threat.
Therefore, given the high savings rate, China should be more tolerant of its leverage level. Past experience shows that only strong economic growth can effectively lower the leverage level. Otherwise, efforts to reduce the leverage level will only lead to lower economic growth, which in turn drives up the leverage level.
In March, the Chinese government set the major economic targets for 2022, aiming to achieve 5.5 percent growth and create 11 million new jobs in urban regions, keep urban unemployment under 5.5 percent, and maintain growth in the consumer price index to under 3 percent. To many, the 5.5 percent growth target was higher than expected. With more proactive fiscal and monetary policies, China has the potential to reverse the downturn in China’s economic growth in the past years and enter a new phase of sustained growth.