Unravelling the Dragon’s downturn: analysing the decline of the Chinese Economy

Growth in China’s GDP has unexpectedly slowed, raising concerns for its domestic and global growth prospects. In this second quarter, China’s gross domestic product grew by just 0.8%, signalling one of the worst performances in fifty years. Businesses that are heavily reliant on trade with China must mitigate risk and ensure they are adequately prepared for a possible downturn in the Chinese economy.

There are many contributory factors – including the global pandemic, a 8.3% decline in year-on-year exports following raised central bank interest rates, a reduction in Western consumers, manufacturers seeking alternative non-Chinese supply chains following geopolitical tensions, poor in-country consumer spending, an ageing population and an ailing property sector. The reported downturn followed the lifting of the country’s Covid-19 restrictions which had been expected to boost a post-pandemic revival. Many analysts are revisiting their assessments of China’s prospects.

China’s current debt situation

China’s lending activities have grown exponentially making it one of the top major loaning nations. It is said that China’s loans to twenty-two countries reached a staggering US$240 billion up to 2021, making it the single largest creditor on earth. It is believed that secret lending goes far beyond this, with half of China’s loans going to developing countries under non-transparent practices. Its lending to countries ‘in need’ amounted to 5% of its lending portfolio in 2010; by 2022, bailout lending had jumped to 60%. There are allegations of ‘debt trapping’, where vulnerable countries find themselves subjected to the will of Beijing.

Credit has been focused almost entirely on the Belt and Road Initiative (BRI), the massive China-led infrastructure project aiming to connect Asia with Africa and Europe. Also referred to as OBOR (One belt, One Road), the BRI was launched in 2013, aiming to promote and invest in the connectivity of some 150 countries and companies across the globe. It creates overland, sea and rail routes across central Asia connecting China to Europe, as the Silk Road did in the past and facilitated by vast infrastructure projects to include railways, roads, bridges, ports and even power stations all either paid for or financed by China. The BRI reduces China’s dependence on the Malacca Strait and other traditional routes and reduces US-led influence.

Countries who are reported to have defaulted on their significant Chinese loans include Pakistan, Kenya, Zambia, Laos, Mongolia, Argentina, Turkey and Sri Lanka, all experiencing economical strain as a result. Pakistan, Kenya, Zambia, Laos and Sri Lanka are reportedly unable to repay even the interest payments. There are serious global concerns about the impact of the Chinese loans on their economies.

Debt forgiveness and financial stability

The G20 Common Framework for Debt Treatments (CFDT) has made significant inroads in managing government debt. The G20-created Debt Service Suspension Initiative (DSSI) has afforded temporary relief to forty-eight out of seventy-three of the poorest eligible countries. However, there are no such initiatives offered by the Chinese and there have been concerns about their attitudes to debt forgiveness. China has a reputation for laser-focused debt recovery, opting for extending terms and interest rather than reducing amounts.

In 2022, China announced that it would allow relief concessions, forgiving twenty-three interest-free loans to seventeen African countries. It also promised US$10 billion of its own IMF reserves to support the African nations. The interest-free loans accounted for just a fraction of China’s credit to Africa – the lion’s share of its lending is BRI-related and subject to very different terms. This has prompted calls for China to restructure the remainder of its loans to the continent.

China’s response and future outlook

In a bid to stimulate the economy, China has implemented several policies to address three problem areas: weakening demand, supply chain shocks and managing expectations. The government is looking to stimulate private investment through incentives to encourage spending; supply chain stabilisation policies aim to address the challenge of geopolitical tensions and ASEAN competitors like India; managing international and domestic expectations remains an issue.

China’s aim to be a fully developed and thriving state by 2049 faces serious obstacles. Its ageing, non-tax-paying population remains a problem with fertility lowering to 1.7 births per woman and there are signs of a declining working-age populous. The rural–urban divide continues to grow with some 40% of people still living in rural areas. Rural education, healthcare and employment opportunities are limited and could rattle the stability and legitimacy of the government.

China’s underdeveloped financial system cannot adequately support small and medium sized enterprises (SMEs). Restricting credit facilities prevent growth, innovation and development, and affect employment.

China’s reliance on carbon-based energy sources makes it the world’s greatest carbon dioxide emitter. Coal accounts for over 50% of the country’s energy needs despite a commitment to carbon neutrality by 2060. This dependence must be reduced.

The property market is apparently weak – with the government simultaneously encouraging homeownership and trying to prevent a spike in property prices through excessive speculation. A shift from land sales dependency to an established municipal bond market for government-issued bonds to finance public and infrastructure projects is on the cards.

Global concerns and geopolitical implications for Western sectors

How does China’s slowdown affect us? Everyone knows that what happens at the top of the food chain reverberates down. A slowdown in China will have global implications. China’s poor post-lockdown recovery figures raise questions about its current strategy and international relationships. Has it reached a plateau? Is decline coming? Optimists believe good policies and measures to stabilize the economy will ensure that matters will improve.

A failing China will seriously impact export-dependent businesses. Companies that are exposed to China’s property market and manufacturing facilities will also experience challenging times – in particular, Australia resource exports and mining sectors. Japan falls into the same category but the number of Japanese companies operating in China fell between 2020 and 2022, demonstrating a decreasing reliance on China as a suitable place to manufacture. The Altasia (pro-US) region is now viewed as ‘the’ safer alternative supply chain.

Large international entities like Tesla and GM could witness a decline in sales if Chinese consumer confidence slows. Likewise, 3M and Caterpillar that generate huge revenues from China will be hit by reduced demand. International markets will feel the aftershocks of Chinese slowdown, leading to a reduced appetite in investor risk and a potential mass exodus from emerging markets. Global asset prices and economic stability will be impacted and excessive volatility in commodity prices would not be hard to envisage.

Can Western business find a viable way through the minefield?

Options for mitigating risk and providing some level of protection in the presence of uncertainty including diversifying supply chains, flexibility in business strategy, sound risk management practices, market diversification and dialogue with Chinese partners. Reliable data for confident decision-making is vital; sound, proactive measures and adequate preparation are essential.

China’s unexpected slowdown will impact domestic growth and the economies of countries in receipt of significant Chinese loans. China’s lending and debt recovery practices are far from transparent and it is unclear how many are in the pockets of Beijing. What will happen when the dragon starts knocking at the door? Businesses that are heavily reliant on trade must mitigate risk where possible.

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