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Introduction
China's economy continues to demonstrate resilience amidst concerns about global headwinds and specific domestic sector slumps. Domestic and international economic circuits are flowing as structural reforms continue to forge a new composition of social capital. Post-pandemic cyclical recovery gathers pace on the back of sustained income growth, household consumption expenditure, and investment growth in several catalytic target areas. Western mainstream tropes of an impending "Chinese economic collapse" flitter from one "China Crisis Trope" to another. By addressing these tropes, within a framework anchored by the idea of "dual circulation," an alternative understanding of China's evolving economic structure and trajectory reveals itself. It's an understanding that speaks of resilience, restructuring, and recovery.
Dual Circulation
In 2020, the concept of "dual circulation" was officially introduced into the economic policy vocabulary. For many Western observers, this concept presaged what they saw as an impending retreat to economic autarky. This interpretation is conceptually and empirically misleading.
Conceptually, the suggestion that dual circulation implied a closing up of China, in effect, turning against four decades of "reform and opening-up," was premised on a careless reading and interpretation of the original concept. The then Vice Premier of China Liu He published a lengthy article on the concept in the People's Daily on November 25, 2020.1 He began his essay by reiterating the proposal approved at the fifth plenary session of the 19th Central Committee of the Communist Party of China that China must "accelerate the creation of a new pattern of development that focuses on domestic economic flows and features positive interplay between domestic and international flows." What is being separated in this formulation are the ideas of large-scale domestic circulation and (as part of the same list) the idea of the mutual impact of domestic and international circulations on the establishment of new development patterns.
Liu then reflected on the changing domestic and international conditions to which the idea of "dual circulation" is responding. Rather than marking a break from "reform and opening-up," this idea reinforces the importance of the interaction between the economic circuits of the Chinese domestic economy, as well as the economic value flows that take place externally in the creation of new development pattern. Trade and investment flows are the embodiment of these interactions. For Liu, due to the "weakening of the kinetic energy of the major global economic circuits" after the 2008 Global Financial Crisis (GFC), there has been a need to adjust and intensify the nature of global interactions while, at the same time, boosting the relative role of domestic consumption as a mainstay of economic circulation.
These conceptual developments matter because they frame actions and priorities in the real economy. The GFC embodied the high watermark of Western financialized economic development. Until then, China's rapidly expanding interactions with the global order came largely by way of trade and investment flows with the mature economies of the collective West. The GFC necessitated a diversification of global exposure. By 2013, this diversification was embodied in what has become known as the Belt and Road Initiative (BRI), which has underpinned an intensification of China's trade and investment relations with developing (non-Western) nations.
China Crisis Tropes, Evidence, and Interpretation
Trade Collapse Trope
Around August 2023, there was a flurry of mainstream commentary on the back of July 2023 trade data (compared to July 2022 data) showing a dramatic year-on-year fall in exports to the United States. The data was used to claim success for America's "decoupling" mantra. Despite this, as Aristotle reportedly said, "One swallow does not a summer make, nor one fine day; similarly one day or brief time of happiness does not make a person entirely happy."
The year-on-year data is misleading when put into context. For starters, the actual value of July 2023 exports (280.8 billion USD) was not that much below June (283.4 billion USD).2 In part, this can be attributed to a big fall in the year-on-year price achieved for China's exports, e.g., lower chip prices, lower oil prices, and a stronger USD. The other point is that China's July 2022 exports experienced an unusual peak. This is clear when we consider July export data for the last five years, which is:
● 2019: 221.8 billion USD
● 2020: 236.8 billion USD
● 2021: 282.3 billion USD
● 2022: 332.3 billion USD
● 2023: 280.8 billion USD
This shows the July 2022 situation to be an unusual spike. This being the case, a month-on-month comparison with July 2022 as the denominator is likely to distort the commentary, and did. Chinese exports (and trade generally) have continued to recover, though constrained by global economic conditions that have placed general downward pressure on trade overall. The major change is an evolution in the structure of trading patterns, whereby the relative importance of transatlantic markets to Chinese exporters has progressively diminished. Today, Chinese firms export more to customers in the Global South (including the BRI) than to the US, Europe, and Japan combined. The ASEAN economies are now China's most significant trading partners combined, overtaking the EU recently.
Over Capacity Trope
The evidence of export dependency matters because it goes to the heart of one of the recent tropes concerning the post-pandemic Chinese economy. The "trade collapse trope" was rapidly abandoned. It was, ironically, replaced with the "over capacity trope," which claims that (a) the Chinese domestic economy is weak and therefore (b) Chinese over-capacity must find export markets to compensate.
The most visible hallmark of Chinese economic development in the past three decades has been the rapid expansion of its manufacturing sector. In 1995, China's manufacturing value added comprised no more than 5% of the world's total manufacturing value added. By 2020, China's gross manufactured output had reached 35% of the world's total, and the net value added made up about 29% of the world's total. In terms of exports, China's manufacturing sector accounted for 3% of total world manufactured exports in 1995. By 2020, this had risen to 20%. The standard narrative is that China's growth was premised on low-cost manufactured exports. This is partly the case but has been superseded by the passage of time. China's exports to production ratio shows that in 1995 it was 11%; it then peaked at 18% in 2004 and had by 2020 receded to 13%.3 While production volume and value grew, it is clear from the exports-to-production ratio evidence that much of this output was absorbed by a growing Chinese domestic market.
A case in point is new energy vehicles (NEVs). Production capacity and output have grown significantly in the past 24 months. At the same time, exports have also become prominent, catalyzing the at-times shrill claims of Chinese NEVs threatening the motor vehicle industries of the EU and US. Output has doubtless grown significantly; however, around 80% of this is sold directly into the Chinese domestic market. Chinese-made NEVs claim about 8% of market share in the EU (having increased from 3% a couple of years ago), with expectations that this may grow to as much as 15% by 2025.4 As for the North American market, imports of Chinese-made autos (not just NEVs) have always been small and presently occupy less than 3% of market share. Korean, Canadian, and Mexican auto exports have, however, grown over the past two decades. Where Chinese auto exports have grown strongly is the Russian market, though this is expected to taper off in the future.
Much of China's growing productive capacity in manufacturing has fulfilled the needs of an expanding domestic consumption base. The exports-to-manufacture ratio shows the longer-term pattern for manufacturing generally, which is being replayed in the new arena of NEVs.
Weak Demand and Deflation Trope
If one were to rely on Bloomberg or the Financial Times for news on China, one would be forgiven for thinking that household consumption demand had collapsed. Bloomberg headlined a New Year's Eve story with the claim that China's economy was experiencing a "dead cat bounce."5 The Financial Times has been running stories about deflation for some time now, implying that falling wholesale and consumer prices were evidence of economic malaise. Much of this hand-wringing is misplaced.
Household consumption expenditure has not collapsed in China. On the contrary, the evidence points to strong per capita consumption expenditure growth on the back of rising real incomes. Household incomes in China have risen strongly for many years. During the last nine years, per capita disposable income roughly doubled. From 2000 to 2020, disposable income per capita increased by around 700%.6 The International Labour Organization (ILO) has recently concluded that China is one of a handful of countries that has experienced real household income growth on the back of productivity growth.7 Chinese official statistics show that in 2023, the nationwide per capita consumption expenditure increased by 9.2% over the previous year, and the real increase was 9% after deducting price factors. Urban and rural household consumption expenditure growth was more or less the same.8 Observed deflation therefore cannot be attributed to a slump in aggregate demand.
In a 2015 paper, researchers at the Bank for International Settlements (BIS) explored the historical evidence of the relationship between deflation and output growth.9 Reviewing a sample of up to 38 economies over 140 years, the researchers conclude that "this link is weak." They note that there is an "almost reflexive association of deflation with economic weakness," which is "rooted in the view that deflation signals an aggregate demand shortfall, which simultaneously pushes down prices, incomes, and output." They go on to observe that "deflation may also result from increased supply." Examples include improvements in productivity, greater competition in the goods market, and cheaper and more abundant inputs.
Two examples illustrate this point explicitly:
First, in January 2024, China's NEV CPI for transportation facilities experienced a year-on-year decrease of 5.6% while NEV sales grew by 78.8%. On the mainstream interpretation, these two observations would be incongruous. However, it is well known that Chinese NEV manufacturers are increasingly sophisticated, automated, and driving productivity growth; simultaneously, the domestic NEV market is incredibly competitive. 10
Second, pig prices. Pig prices matter in terms of national accounting because they impact the inflation/deflation data significantly. Bloomberg recently claimed that "pork demand has been sluggish for months in China, but its continued weakness… sends a powerful message about consumption and oversupply, as wage declines hit households and weigh on consumer prices."11 The Bloomberg narrative has all the key ingredients of the mainstream presumptions about deflation and its "cause and effect" transmission mechanisms, but household incomes have not declined. Still, the most striking error of the Bloomberg narrative is that market data on pig production and pork demand show that both have been rising since the pandemic. There's actually an ongoing shortage that's filled by imports.12 The real driver of depressed prices is not "sluggish" demand; it's near record levels of supply. Put plainly, pig producers reacted strongly to high prices in Q3 and Q4 2022 (described at the time by Nikkei as a "porkflation crisis") and there is an oversupply.13 Pork production in 2023 increased by 1.9%, 4.6%, 4.8%, and 7.3% for each quarter to reach levels not seen since 2014.14
In the present conditions, the evidence of goods and services deflation points not to a demand malaise but to overshooting supply capacity in the context of demand growth.
The Social Capital Restructure
One area where demand is not growing is residential real estate. Real estate asset prices have fallen. If anything, this is a more standard case of asset value deflation (as opposed to goods and services price deflation) as described in the BIS paper. To say that China's residential real estate sector has been in relative contraction is not controversial. This issue is, what are we to make of it considering the wider analysis of dual circulation and the new development patterns?
Residential real estate's contribution to GDP grew significantly during the 2010s. Rapid and expansive urbanization underpinned the sector's boom. At its peak, the sector and its associated activities accounted for an estimated 30% of China's GDP.15 The relationship between the residential real estate sector and credit markets was to emerge as an area of concern by 2016/2017. Coming off the back of major clampdowns on the peer-to-peer finance sector at that time,16 the banking authorities were cognizant of the risks in the credit cycle that could be unleashed as a result of excessive real estate-associated leverage. This was one of the core lessons from the GFC. During 2015-2018, the average annual increase in real estate credit was around 20%.17 By way of contrast, the annual rate of growth for manufacturing credit was 2.8%.18 In late 2017, the then Governor of the People's Bank of China, Zhou Xiaochuan, raised explicitly the risk of a "Minsky Moment."19 At the same time, Chinese President Xi Jinping observed that "housing is for living in, not for speculation."20 Efforts to rein in property-secured credit were on the cards. Credit growth rates toward the property sector were eventually curtailed. Real estate development loans grew 1.5% year-on-year at the end of 2023, compared to 3.7% for the previous year.21
Aside from concerns about a financial crisis à la Minsky's financial instability hypothesis, and social problems of housing affordability, the relatively dominant role of the residential property sector was also creating what could be called "Dutch Disease," drawing resources away from other branches of industry. As growth in credit to real estate development was curtailed, credit growth to high-tech manufacturing began to pick up the slack. China is now the world's fastest growing robot market. According to the International Federation of Robotics, China overtook the US for the first time, to become the world's fifth most automated country in 2021.22 This shift "up the technology ladder" has been accompanied by national and corporate investments in data transmission and computational capabilities. Capacity expansion has also been seen in green technology and renewable energy specifically. In 2023, China added 200 GW+ of solar generation capacity and a further 300 GW of solar manufacturing capacity. Clean energy industries encompassed 40% of China's GDP growth in 2023.23
Outlook
The International Monetary Fund's January 2024 global outlook projected overall global economic growth to be sluggish at 3.1%. The picture, however, is uneven. Advanced economies are expected to grow at 1.5%, with the US projected to grow at 2.1%. Emerging and developing economies are expected to pick up the slack globally with 4.1% of growth rate. India (6.5%) and China (4.6%) are the standouts. Sub-Saharan Africa is also a region of above-average economic activity (3.8%). Nigeria (3.0%), Saudi Arabia (2.7%), Mexico (2.7%), and Russia (2.6%) are also noteworthy.24
China's economy is expected to contribute some 30% to global growth, more than the contributions of India and the US combined. China's economic structure is in flux. The evidence points to an ongoing restructuring of the social capital aimed at increasing productive capacity in high-tech value adding, with strong enabling inputs from renewable energy and digitization. The trade-off is a policy-induced reduction in the relative contribution of real estate to overall economic activity. This has been a necessary structural reform to address Dutch Disease impediments to growth and militate risks of a Minsky Moment.
Household income growth and consumption demand remains robust. Evidence of deflation is a function not of a collapse in aggregate demand, but rather, supercharged supply side growth in a highly competitive environment. China will continue to be the biggest trading partner of over 140 nations in the world, but this does not imply that its economic model is undergirded by over-capacity for which external markets act as "safety valves" or "dumping grounds." On the contrary, it is clear that just as productive capacity grows, so too does the domestic market.
In a recent speech at the World Economic Forum, Chinese Premier Li Qiang observed that over the next decade, China's middle class is expected to double from 400 million to 800 million.25 This is what's meant by the notion of the domestic market being the "mainstay." At the same time, the interaction of domestic market growth together with new trade and investment flows is expected to create a new development pattern focused on harnessing finance to support productivity growth and decarbonization of economic activity while driving development globally.
1. Liu He, "Accelerate the Creation of a New Pattern of Development that Focuses on Domestic Economic Flows and Features Positive Interplay Between Domestic and International Flows," People's Daily, November 25, 2020.
2. "Cargo Import and Export Monthly Statistics," Ministry of Commerce, People's Republic of China, accessed February 22, 2024, http://data.mofcom.gov.cn/hwmy/imexmonth.shtml.
3. Richard Baldwin, "China Is the World's Sole Manufacturing Superpower: A Line Sketch of the Rise," CEPR, January 17, 2024, https://cepr.org/voxeu/columns/china-worlds-sole-manufacturing-superpower-line-sketch-rise.
4. Brenda Goh, "What Is Driving Chinese EV Exports and Their Price Competitiveness?," Reuters, September 15, 2023, https://www.reuters.com/business/autos-transportation/what-is-driving-chinese-ev-exports-their-price-competitiveness-2023-09-14/.
5. John Authers, "China Markets: Year of the Dragon or the Dead Cat Bounce?," Bloomberg, February 7, 2024, https://www.bloomberg.com/opinion/articles/2024-02-07/china-markets-year-of-the-dragon-or-the-dead-cat-bounce.
6. "Per Capita Disposable Income of Households in China 1990-2023," Statista, last modified January 18, 2024, https://www.statista.com/statistics/278698/annual-per-capita-income-of-households-in-china/.
7. International Labour Organization, World Employment and Social Outlook - Trends 2024, January 10, 2024, https://www.ilo.org/wcmsp5/groups/public/---dgreports/---inst/documents/publication/wcms_908142.pdf.
8. "Households' Income and Consumption Expenditure in 2023," National Bureau of Statistics of China, last modified January 18, 2024, https://www.stats.gov.cn/english/PressRelease/202402/t20240201_1947120.html.
9. Claudio Borio et al., "The Costs of Deflations: A Historical Perspective," BIS Quarterly Review, March 2015, https://www.bis.org/publ/qtrpdf/r_qt1503e.htm.
10. Fusheng Liu, "Big Battle Ahead as China's NEV Market Goes up a Gear," China Daily, January 8, 2024, https://www.chinadaily.com.cn/a/202401/08/WS659b34a5a3105f21a507af8a.html#:~:text=He%20said%20the%20intense%20competition,slice%20of%20the%20burgeoning%20market.
11. Hallie Gu and Alfred Cang, "China Economy: Weak Pork Demand for Lunar New Year Highlights Deflation Woes," Bloomberg, February 3, 2024, https://www.bloomberg.com/news/articles/2024-02-03/china-economy-weak-pork-demand-for-lunar-new-year-highlights-deflation-woes.
12. Zhejiang Dadi Futures, "Pig Farming Handbook (Part 2): Global and Chinese Overview of Swine Supply and Demand," China Futures Association, August 3, 2023, https://www.cfachina.org/servicesupport/analygarden/ncpl/sz1/202308/P020230809521516643511.pdf.
13. CK Tan, "China Battles 'Porkflation' as Price of Popular Meat Soars," Nikkei Asia, September 11, 2022, https://asia.nikkei.com/Economy/Inflation/China-battles-porkflation-as-price-of-popular-meat-soars.
14. "Why Has the Pork Price Been Consistently Low?," Xinhua, January 25, 2024, http://www.xinhuanet.com/fortune/20240125/876c6a02c0204a83ae97cfe030d477ab/c.html.
15. Zongyuan Zoe Liu and Daniel Stemp, "The PBoC Props up China's Housing Market," Council on Foreign Relations, March 21, 2023, https://www.cfr.org/blog/pboc-props-chinas-housing-market.
16. Hu Yue and Denise Jia, "China's 4-Year Crackdown Leaves Just Three P2P Lenders Standing," Caixin Global, November 7, 2020, https://www.caixinglobal.com/2020-11-07/chinas-3-year-crackdown-leaves-just-3-p2p-lenders-standing-101624086.html.
17. Zhen You, "In 2018, the Outstanding Balance of Personal Housing Loans in China Was 25.75 Trillion Yuan," Zhiyan Consulting, January 2, 2020, https://www.chyxx.com/industry/202001/824703.html.
18. "China Loan: Manufacturing," CEIC, accessed February 23, 2024, https://www.ceicdata.com/en/china/loan-by-industry/loan-manufacturing.
19. Ming Zhang, "Will the Chinese Economy Face a Minsky Moment?," Caixin, November 7, 2017, https://zhang-ming.blog.caixin.com/archives/171192.
20. Yuan Gao, "Housing Should Be for Living in, Not for Speculation, Xi Says," Bloomberg, October 18, 2017, https://www.bloomberg.com/news/articles/2017-10-18/xi-renews-call-housing-should-be-for-living-in-not-speculation.
21. Clare Jim and Ziyi Tang, "New China Property Financing Measures Set to Be Tested by Banks' Cautious Approach," Reuters, February 4, 2024, https://www.reuters.com/markets/asia/new-china-property-financing-measures-set-be-tested-by-banks-cautious-approach-2024-02-02/.
22. "China Overtakes USA in Robot Density," International Federation of Robotics, December 5, 2022, https://ifr.org/ifr-press-releases/news/china-overtakes-usa-in-robot-density.
23. Lauri Myllyvirta et al., "Analysis: Clean Energy Was Top Driver of China's Economic Growth in 2023," Carbon Brief, January 25, 2024, https://www.carbonbrief.org/analysis-clean-energy-was-top-driver-of-chinas-economic-growth-in-2023/.
24. International Monetary Fund, World Economic Outlook Update, January 2024, https://www.imf.org/en/Publications/WEO/Issues/2024/01/30/world-economic-outlook-update-january-2024.
25. Dan Steinbock, "Chinese Economy Still Has Much Potential," China Daily, January 18, 2024, https://www.chinadaily.com.cn/a/202401/18/WS65a8e4efa3105f21a507d11b.html.
Please note: The above contents only represent the views of the author, and do not necessarily represent the views or positions of Taihe Institute.
This article is from the February issue of TI Observer (TIO), which examines the contextual nuance of Chinese economics and its subsequent impacts. If you are interested in knowing more about the February issue, please click here:
http://www.taiheinstitute.org/Content/2024/02-29/1107328303.html
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