China’s political leadership is under pressure to support the country’s fragile recovery and is slowly steering the economy on a new course. They can no longer rely on real estate and local debt to drive growth, but are instead investing more in manufacturing and increasing central government borrowing.
For the first time since 2005, when similar records were kept in China, state-controlled banks have begun a sustained reduction in housing loans, data released last week showed. Instead, enormous sums of money are flowing to manufacturers, particularly in fast-growing industries such as electric cars and semiconductors.
The approach carries risks. China has a chronic oversupply of factories, far more than the country needs for its domestic market. A greater focus on manufacturing will likely lead to more exports, a rise that could anger China’s trading partners. China’s additional lending also poses a challenge for the West, which is trying to encourage additional investment in some of these industries through legislation like the Biden administration’s Inflation Reduction Act.
The shift to manufacturing credit underscores Beijing’s reluctance to rescue China’s debt-burdened real estate market. Construction and housing make up around a quarter of the economy and are now suffering from sharp declines in prices, sales and investment.
China’s investment offensive could boost growth in the coming months and partially offset problems in the real estate sector. But greater central government borrowing to replace local borrowing will do little to alleviate the long-term drag on growth caused by debt accumulation.
“I don’t think there is a problem for short-term development, but we have to worry about medium- and long-term development,” Ding Shuang, chief China economist at Standard Chartered, said at a recent Chinese forum of economists and financial experts in Guangzhou . “It’s fair to say that real estate isn’t about one particular floor.”
China’s housing crisis has its roots in four decades of debt-fueled speculation that drove prices to levels far above what could normally be justified by rents or household income. China’s policymakers triggered the sector’s recent decline by beginning to curb lending several years ago and are now reluctant to rescue the sector with another wave of real estate loans.
The government expected China’s economy to bounce back in 2023 after the country’s leaders lifted most of the “zero Covid” restrictions that crippled the economy last year. But after an initial burst of activity, growth lagged in the spring and summer. Vulnerabilities remain: manufacturing activity stagnated again last month after showing growth in August and September.
Last week, China’s supreme leader, Communist Party officials and government officials met privately to discuss fiscal policy at a conference chaired by Xi Jinping. According to an official statement afterward, the conference ordered more funding to be directed toward advanced manufacturing industries and support for local governments.
While the real estate market is struggling, factory construction, supported by government funding, is in full swing.
China has already built enough solar panel factories to meet the entire world’s needs. It has built enough car factories to produce every car sold in China, Europe and the United States. And by the end of 2024, in just five years, China will have built as many petrochemical plants as all those currently operating in Europe, as well as Japan and South Korea.
Economists at the recent meeting in Guangzhou held by the International Finance Forum, a Chinese think tank, acknowledged that the country was facing challenges not seen since the years immediately after Mao’s death in 1976. However, they predicted that major investments in new manufacturing technologies would pay off.
“We have similar difficulties today as we did in 1978, so the question now is, what will the future of innovation-driven growth look like?” said Zhang Yansheng, a former senior official at the central government’s economic planning agency who now works at the China Center for International Economic Exchanges.
The Chinese banking system’s shift from real estate lending to manufacturing began several years ago, said Bert Hofman, director of the East Asian Institute at the National University of Singapore, at the event in Guangzhou.
Before the pandemic, China’s banks increased their real estate lending by more than $700 billion a year. In the twelve months to September, the total number of outstanding real estate loans fell slightly. Banks lent less to developers and households paid off their old mortgages while taking out fewer new ones.
By comparison, net lending to industrial companies rose from $63 billion in the first nine months of 2019 to $680 billion in the first nine months of this year. That money has partly gone toward building a semiconductor industry that could allow China to move away from imports and circumvent American export controls, as well as into categories such as electric car manufacturing and shipbuilding.
Many economists expressed concern that more money for manufacturing might not stimulate the broader economy. The real estate sector is still in decline and is so large that it will not be easy to offset its problems with growth in industries such as automobile manufacturing, which accounts for 6 to 7 percent of economic output.
The boom in factory construction threatens to antagonize other countries: A large part of the additional production is likely to be exported because many Chinese households have cut back on spending.
However, the United States and the European Union are less willing to accept further increases in their trade deficits with China. The European Union is already investigating the Chinese electric vehicle industry’s use of government subsidies, opening a new trade rift between Brussels and Beijing.
China is aware of these risks and is courting developing countries. These countries still have large but often aging manufacturing sectors, providing an opportunity for exports from newly built, high-efficiency factories in China. Many developing countries are struggling to renegotiate large debts to Beijing for infrastructure projects, putting them in a weak position to impose tariffs on Chinese goods.
China’s factories have been gaining dominance for decades. According to the United Nations Industrial Development Organization, the country’s share of global manufacturing has increased nearly five-fold to 31 percent since 2000. The United States’ share has fallen to 16 percent, while the share of developing countries excluding China has remained at 19 percent.
Of course, one thing that doesn’t change about China’s approach is its reliance on borrowing to fuel growth.
For years, officials have repeatedly tried to curb the country’s debt addiction. Liu He, a vice premier, promised in a speech in 2018 that this would happen within three years.
Instead, local government debt has skyrocketed since 2020, reaching nearly $8 trillion last year, and local government semi-independent lending units have amassed trillions of dollars more in loans. China’s total debt has increased so much that, as a proportion of the country’s economic output, it is significantly higher than the debt of the United States and many other developed countries.
Yao Yang, director of the National School of Development at Peking University, said in September that efforts to control debt had not been successful.
“Between 2014 and 2018, which should have been a window for deleveraging, debts skyrocketed; The situation has worsened after 2020,” he said in a speech. “This suggests that previous debt relief measures have been ineffective and in some cases counterproductive.”
Siyi Zhao contributed to the research.
Comments are closed.