Hong Kong () - It is well recognized that China’s recent prodigious economic growth has been built on not just exports, but equally massive bank lending for fixed-asset investment.
But keep doing the same thing for too long, and it is likely to eventually run into the basic economic law of diminishing returns. China’s growth model increasingly appears to have hit a ceiling, with few easy answers this time round.
As a series of economists last week pared their gross domestic product forecasts due to weaker global growth, fresh fears have also emerged over unsustainable levels of bank lending. The need for China to switch to domestic-consumption-led growth now looks a matter of necessity rather than choice.
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Spending last week in Beijing gave me a first-hand view of the transformation when an economy has been growing at double-digit rates for a decade, albeit with fixed-asset investment counting for up to 80% of that growth.
It is still possible to be in awe of the pace of development in the past five, 10 years, but at the same time, the distortions and obvious limits to this state-led growth model also hits home.
Traveling — or I should say, crawling — along Beijing’s grid of five-lane highways, it comes as no surprise that China overtook the U.S. to become the No. 1 automobile market in 2009. Surely, any policy maker must conclude the daily logjams and overpowering pollution mean you can’t push auto growth any further.
In fact, these jams are so severe, the hotel front desk suggested leaving three hours early to travel the 30 kilometers (18.5 miles) to the airport, doubling the journey time to Hong Kong. This somewhat spoiled my appreciation of the spectacular new airport terminal at Beijing’s airport, which Condé Nast Traveler magazine named the world’s best in 2009.
Another observation of the new Beijing is the sheer scale of the imposing commercial buildings, usually belonging to some arm of government or state company, that line the highways. They seem oddly out of proportion to people going about their business on the ground, many of whom outwardly look no more prosperous than a decade back.
One interpretation is the city just reflects the realities of where money has been spent in China’s recent growth rush.
A variety of data point to private-sector consumption shrinking as the economy raced ahead, declining from a 45% share of GDP in the 1990s to around 35% now.
The government, to be fair, has recognized this as a problem, and tackling the imbalance in consumption and investment was included as a key part of its 12th Five-Year Plan.
Still, shifting the current system represents a challenge, say some analysts.
John Lee, author of “Will China Fail,” puts some blame on the inefficient job-creating capabilities of state-owned enterprises, which outside the top flagship companies are largely unprofitable. One consequence of this is the government’s insistence on maintaining the controversial dollar peg to protect the export manufacturing companies that supply tens of millions of jobs.
Lee describes the current system as a strong and rich state overseeing a poor people and a country with a weak core, meaning that a rebalancing of the economy is needed not just to boost growth, but also to maintain social stability.
But changing habits will not be easy. It will be hard to wean state-owned industry off its addiction to easy money and conveniently protected industries. The problem with more robust competition and a bigger private sector is more growth and jobs may come at the cost of the Chinese Communist Party losing some control over the economy.
Meanwhile, new voices are raising further questions over China’s lending-based growth model.
Last week, Ma Weihua, president of China Merchants Bank CN:600036 -2.89% HK:3968 -0.26% CIHHF -4.23% , said China’s banks cannot keep tapping the stock market to fund growth or comply with regulatory demands governing their capital base.
Ma added that the country’s banks had a flawed growth model, based on a rapid expansion of lending and frequent moves to replenish their capital base. China’s five biggest banks have previously sold a massive 413 billion yuan ($65 billion) worth of equity.
Meanwhile, last week, it was revealed that new loans in China fell sharply from 634 billion yuan in June to 493 billion yuan in July.
But it’s unclear how much lending is really slowing. Last week, it was highlighted that mainland Chinese entities have been borrowing in Hong Kong (see last week’s column, “Reassessing Beijing policy favors for Hong Kong” ) to get around official lending curbs — as this is not included in state figures on lending.
Fitch Ratings expects these institutions to provide 700 billion yuan to 1 trillion yuan of loans to mainland firms in the second half of 2011. Earlier the Hong Kong Monetary Authority revealed financial institutions’ claims on mainland companies rose four-fold to 1.6 trillion yuan between mid-2009 and the end of May. Concerns raised by this lending suggest it too cannot continue.
One way or another, Beijing has some serious policy and traffic issues to consider.