(Photo by John S Lander/LightRocket via Getty Images)
LightRocket via Getty Images
Beijing has finally begun to acknowledge its deep financial woes. A few weeks ago, after more than a year of hesitation, it took steps to liquidate its struggling real estate sector. It recently announced a new financial stability law that aims to control risk, according to Liu Guoqiang, vice chairman of the People’s Bank of China (PBOC). Such measures may provide temporary relief, but they fail to address China’s deeper economic problems and their reflection in financial markets.
The scale of China’s debt problem is truly staggering. Ultimately, debt of all kinds – public and private and across all sectors of the economy – amounted to the equivalent of $51.9 trillion, almost three times the size of China’s economy in terms of the country’s gross domestic product. This is the highest level recorded in the 27 years since Beijing first began tracking such statistics. Things only seem to be getting worse. According to the Beijing-backed National Institution of Finance and Development, local authorities will issue about 4 trillion yuan ($570 billion) in new debt next year.
China’s debt overhang far exceeds the burden of the United States. As recently as 2020, the United States’ total debt-to-GDP ratio exceeded China’s. But by mid-2022, China’s relative debt burden was 40 percent higher than America’s. If this comparison doesn’t make China’s precarious situation clear, it’s worth considering that more developed countries like the United States, because of their greater relative wealth, tend to have higher relative debt burdens and can bear them more easily than less developed economies, like China’s.
Local governments appear to be the culprit in China’s overall debt mire. It’s not that the communities have pursued wasteful policies. They are tools of the central planners in Beijing. When these planners embark on a spending program, such as B. the recent infrastructure construction plan, they require local governments to issue the debt needed to fund the effort. That debt has grown 11 percent through mid-2022, the most recent period for which data is available, more than enough to weather the modest contraction in private borrowing fueled by the gloomy economic outlook.
Behind these worrying trends lie two other fundamental problems facing China’s economy and financial markets. The first of these is China’s demographic imperative. Because Beijing imposed a one-child rule on families for decades, China now has a shortage of young workers to support a disproportionately large retired population, a concern that will only worsen in the coming years. A summary from the Pew Research Center estimates that China’s population is already beginning to shrink and the economy will soon have fewer than three working-age people for every retiree. Since these three workers cannot possibly produce the required surplus, Beijing will have to use debt to meet its Social Security pension obligations.
Perhaps, at an even more fundamental level (if one is conceivable), indebtedness also reflects a characteristic of communist economic management. In contrast to a predominantly market-based system in which various actors make multiple investments, China’s reliance on centralized governance dominated by state-owned companies tends to channel economic resources into a few large programs. When these succeed, the results are impressive, but when they fall short of underlying economic needs, the losses and accompanying debt can be massive. Recent property development failures are telling. Private companies are involved, of course, but the scale of the failures nonetheless reflects the tremendous importance central planners previously placed on housing, which was indeed so large that at its peak the sector represented an outsized 30 percent of the economy. China may have changed direction since then, but the debt remains and failed developments cannot shore it up. Real estate isn’t the only mistake, either. Other such mistakes have contributed to the debt overhang now so evident in the numbers.
Serious as the matter is, it would be a mistake to view it as an impending catastrophe. Rather, the burden of debt and the need to reallocate economic resources to sustain it will constrain the economy’s ability to make other potentially promising investments. The debt burden will accordingly tend to slow China’s economic growth, certainly compared to the rapid rates of the not too distant past. With China’s demographics not changing anytime soon and President Xi Jinping centralizing economic decisions even more than in the past, it looks like the debt problem, with all its damaging effects on the pace of economic growth, is only going to get worse.
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