As Economy Slows, China Looks For A New Model
October 31, 2012
If you followed American media in recent years, you might have thought China was taking over the planet. Recent titles at the book store have included Becoming China's Bitch and When China Rules the World.
"They are the world's superpower or soon will be," Glenn Beck used to intone on Fox News. "They always thought America was just a blip."
And when the city of Philadelphia postponed an Eagles football game a couple of years ago because of a blizzard forecast, then-Gov. Ed Rendell said America — unlike China — was becoming a nation of "wussies."
"If this was in China do you think the Chinese would have called off the game?" Rendell asked. "People would have been marching down to the stadium, they would have walked and they would have been doing calculus on the way down."
But China always looks more impressive from afar than it does close up.
The government in Beijing is targeting the economy to grow at 7.5 percent this year – well below the nearly 10.5 percent average growth of the previous decade.
Ask Chinese economists about the future of the world's second-largest economy and the tone these days is uncertain and anxious.
"I'm not as optimistic as many people in the Western world think about China," says Xu Dingbo, associate dean of the China Europe International Business School in Beijing.
"If you want to be the world leader, I think China is far from ready," adds Wang Jianmao, his fellow business school professor.
Andy Xie, a Shanghai-based economist, is even more downbeat.
"The efficiency is going down," he says. "Corruption is widespread. So I think this is the crossroads for China."
The Equation Changes
Why do these men sound so somber after so many years of spectacular growth here? The reason is that the economic formula that brought China such success no longer works.
Consider: Rising labor costs mean China isn't a cheap place to make low-end products anymore. Many low-skill manufacturers are either moving to China's interior or to countries like Vietnam to reduce costs. The financial crises in the U.S. and Europe also mean there are far fewer consumers to buy China's stuff anyway.
"The growth model has to change," says Nicholas Lardy, who is a senior fellow at the Peterson Institute for International Economics in Washington, D.C., and has studied China's economy since the 1970s. "They've done very well emphasizing exports and investments, particularly property for the last 10 years, but that string has run out."
Another big problem: China's economic growth is out of whack and unsustainable. About half of it is driven by investment, often in things like real estate and government infrastructure.
"The perceptions in the United States are based on the headlines, that China's been growing at double-digit rates for 30 years," says Lardy. "So we tend to portray China as a giant. It's very difficult from a distance to see the kind of structural weaknesses that exist here."
Signs Of Weakness
Today, you can see those structural weaknesses in places like Tangshan, a city of more than 7 million in north China where the steel industry is struggling. A cook named Liu has seen the problems close up. In August, steel mills on either side of his restaurant shut down.
"Because steel prices have fallen, workers are working less, about 15 to 20 days a month," says Liu as he fries up pork and onion pancakes on a sizzling skillet. "Compared with before, the number of customers has shrunk 50 percent."
One of the companies went bankrupt after it expanded too quickly. Workers told China's state-run press the boss owed banks more than $120 million. Local authorities sealed the mill's front gate with a wall of bricks topped with shards of glass.
In fact, by the end of last year, steel firms owed some $400 billion, according to the China Iron and Steel Association.
Economists say the problem is companies have overinvested in steel to feed an overpriced housing market and massive construction of government infrastructure. A steel mill official named Wang said his plant closed for more than three months this summer.
"I was worried when we would start back up again," said Wang. "Due to the effects of the market, about 20 percent of small-sized mills temporarily stopped production."
Wang didn't want his full name published because the problems in Tangshan's steel business are a sensitive topic. When I approached a coal depot to ask about demand from steel mills, an official there said it was a "state secret." He wasn't smiling.
Wang Jianmao of the China Europe International Business School says some companies keep producing and producing as though China's boom will never end.
"Because of the huge success of the past three decades, I have to say, made some Chinese people very arrogant," says Wang. "They take this fast growth just for granted. They don't believe China will have a crisis. The problem is: If you don't believe you will have a crisis, you will have a crisis."
The government has helped boost economic growth by spending a fortune on infrastructure. Much of it is needed, but sometimes money is poorly spent or siphoned off. Since 2011, eight bridges have collapsed around the country, according to China's state-run media. Most analysts blame government corruption.
One bridge in the southern boomtown of Shenzhen is a marvel of lavish spending and poor construction. The Spring Flower overpass is an $8 million-plus pedestrian walkway modeled on the Bird's Nest stadium from the 2008 Beijing Olympics all the way down to the metal latticework.
Less than two years after its completion, workers are drilling away, replacing the floor tiles because the bridge surface floods when it rains.
"It feels a bit extravagant, a bit wasteful," says an IT worker named Wu, who uses the bridge every day. "Money should be spent on where it's needed, not just on an overpass."
Given the shoddy construction and high price tag, Wu assumes the culprit is "inspectors [who] probably didn't do their work and builders who skimped on the job."
As to the $8 million? "They may have spent at most $1 to $3 million here," he says.
For Small Businesses, Loans Are Hard To Find
China's state-owned banks often fund these projects. But if you are a small or midsized private business — the kind that produces most of the jobs in China — getting a bank loan is very tough.
Ask Katrina Tong. She exports electric chargers for a company in Shenzhen.
"We think market demand for our products is out there and we have potential, but it's really hard to get financial support," says Tong, sitting at her desk in an office buried in one of Shenzhen's factory districts. "It is so frustrating. Investment all goes to big companies."
In fact, the vast majority of small and midsized companies in Shenzhen can't get bank loans. Instead, many turn to private lenders, who typically charge interest rates of 25 percent.
China's state-owned banks prefer state-owned companies, because they're less risky and also because, in a state-driven, capitalist economy, they have been expected to help government businesses.
Large Companies, Low Returns
But economist Xu says many state firms are woefully inefficient.
"You see lots of nice buildings, highways, beautiful cities like Beijing and Shanghai," says Xu, "but if you look at the real financial numbers of many Chinese companies, the picture is very bad. It's horrible."
Xu says the largest 102 state-owned companies had an average return based on assets of about 3.5 percent.
"For nearly half of the assets in China, the rate of return is less than depositing money in a bank," he says. "That means we are wasting lots of resources in China now."
Even as economists worry about the country's future, its leaders strike a tone that is at once optimistic and defensive.
"I do not agree with the argument that China's growth has come to an end after 30 years of reform," Wen Jiabao, China's outgoing premier, told an audience in September at the World Economic Forum in the port city of Tianjin.
Wen insists China can rebalance its economy away from heavy investment in real estate and infrastructure toward one that relies more on by China's 1.3 billion consumers.
"China is a country with enormous potential and a big domestic market and we the Chinese people have full confidence in our own development," Wen said.
Fixing China's economy will require taking on powerful interests, including the state banks and state-owned companies that enjoy monopolies and have thrived under the old economic model.
Analysts say transforming the economy is easily the biggest challenge China's leaders have faced in at least a decade and a half. But given the Communist Party's track record, no one is counting it out.
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