The description of China's economy in 2023 is bumpy. After posting above-expected growth of 4.5 percent in the first quarter of 2023 after three years of strict COVID-19 prevention measures, China's GDP grew 6.3 percent below market expectations in the second quarter. Despite the pessimism, GDP growth reached 4.9 percent in the third quarter, once again exceeding expectations. The fourth quarter saw GDP growth of 5.2 percent, which also marked the annual growth rate for China in 2023.
China's high-tech industry and services sector showed resilience. The strong growth of high-tech industries is partly due to continued support from the Chinese government. Beijing has recognized the potential of high-tech companies to drive economic growth and innovation, and this support is expected to continue.
In 2023, the services sector gained significant momentum, driven by increased demand from consumers and businesses as China lifted COVID-19 restrictions. The service sector contributed 5.8 percent to national economic growth, surpassing agricultural and industrial production.
Despite this robust economic performance, China's economy faces significant challenges, including declining real estate investment, increasing debt risks and weak consumption growth, all of which pose downside risks to China's growth trajectory in the near term.
The decline in the real estate market is not new. It is due to a series of policy measures that began at the end of 2020, in particular the “Three Red Lines” policy, which aims to mitigate significant risks for the many real estate developers with increasing debt levels. Since then, Beijing has repeatedly stressed that housing is for living, not speculation, and reiterated its determination to control risks in the real estate market.
Despite the continued decline in residential investment, the real estate sector showed signs of recovery in 2023 thanks to more favorable policies. In January 2023, the government announced a 21-point plan to improve the balance sheets of high-quality real estate developers. Beijing also eased mortgage policies and eased requirements for first-time home buyers to boost buyer confidence. The rapid expansion of the real estate market may be over, but a smaller market with better developers and tighter government oversight may be the future.
Local governments in China are struggling with high levels of debt, posing another potential trigger for a debt crisis. The debt crisis was particularly worrying in 2023, as economic recovery was slower than expected in some regions and the housing market suffered a prolonged slowdown. In some provinces, these two factors affected governments' ability to service their debts.
Beijing's concerns led to the reform of the local financial regulatory framework in March 2023. The government has also initiated a gradual restructuring of local government debt. These include extending existing debt, extending loan terms at lower interest rates and issuing special purpose bonds to finance large infrastructure projects. Beijing must strike a balance between preventing crises and creating a sustainable path for local government budgets.
China's weak consumption growth is both a cyclical and structural problem. Historically, China's household consumption-to-GDP ratio has been lower than other comparable countries, at 56 percent, compared to 66 percent in India and 67 percent in Thailand, while the average consumption-to-GDP ratio in most advanced economies is about about 100 percent is 80 percent. This is partly due to the catch-up policy that China has pursued since its reforms in the 1980s. This strategy aims to develop the economy by using household savings to subsidize entrepreneurs, thereby suppressing consumption.
The COVID-19 pandemic exacerbated the situation by damaging the balance sheets of many households due to falling incomes and a lack of financial support. Youth unemployment also rose sharply. Despite rising retail sales and services, the recovery in consumption of durable and expensive goods remained sluggish in 2023. Chinese households appear to be overspending and lack confidence in the market outlook.
The government recognized the difficult financial situation and proactively implemented a series of fiscal and monetary policy measures. However, these measures were primarily aimed at companies and not households. The reason for this inequality is China's inadequate social safety net, which prevents the central government from extending relief directly to households. Long-term structural reforms are needed to address this problem.
On December 11-12, 2023, China held its annual Central Economic Work Conference in Beijing. The meeting reiterated the importance of growth and development – but this time supported by innovation and sustainability. The conference continued to emphasize the pressures of insufficient demand and weak social expectations, while identifying new problems such as overcapacity in some industries, hidden risks, bottlenecks in the domestic macroeconomic cycle and increased uncertainty in the external environment.
In its official statement, the 2023 conference presented stabilizing expectations for stabilizing growth and employment. This highlights the growing challenge of addressing the ongoing weakness in household confidence. The conference also continued to focus on key risk areas, including real estate, local government debt, and small and medium-sized financial institutions.
The conference proposed the introduction of a new development model for real estate developers, with 2024 expected to be the year in which the framework of this new model will be formalized. As for local government debt, Beijing called on major provinces to participate in overall debt restructuring efforts.
China faces increasingly difficult challenges. It has rightly identified the domestic market as the key driver of growth, but accepts that the external environment is too volatile to rely on. China's structural challenges – its weak social security system, rigid household registration system, aging population and rising labor costs – cannot be resolved quickly. Three years of strict COVID-19 controls prevented unimaginable health and economic disasters but disrupted China's long-term growth trajectory.
Jiao Wang is a research fellow at the Melbourne Institute of Applied Economic & Social Research, University of Melbourne.
This article is part of an EAF special series of articles looking back on 2023 and the year ahead.
This article was first published by East Asia Forum.
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