China’s Economic Slowdown

What Does This Mean for the World and U.S. Economies?

China’s Economic Slowdown
May 8, 2015

For the past quarter-century, robust economic growth in China has been one of the major engines driving the global economy. Starting in 1991, China’s economy went on a tear, experiencing gross domestic product (GDP) growth at or near double digits almost every year.

The last few years, however, have seen China’s economic growth begin to slow down. After hitting 10.4 percent in 2010, it fell to 9.3 percent in 2011 and 7.7 percent in 2012 and 2013. Last year, GDP growth in China fell to 7.4 percent, its lowest level since 1990, the year before China’s extended run of strong growth started. At that time, China was struggling with high inflation and economic sanctions due to the Tiananmen Square massacre.

So What’s the Problem?

“So what’s wrong with 7.4 percent economic growth?” you might be asking. After all, most of the rest of the world (including the United States) would kill for this kind of growth. It is all a matter of perspective. Since its economy has grown so fast for so long, 7.4 percent growth represents a significant slowdown for China. The last time the U.S. saw economic growth anything close to this was 1984 when GDP growth hit 7.3 percent. Since then, the highest rate of economic growth in the U.S. was 4.8 percent in 1999.

In addition, China’s government says that seven percent growth is the minimum needed to create enough jobs to maintain a steady level of employment for its 1.35 billion people.

“OK, I get it,” you might say. “But what does the rate of economic growth in China have to do with the U.S. economy — or the world economy, for that matter?” The short answer: Plenty.

As noted above, China’s quarter-century run of strong economic growth has been one of the biggest factors behind global economic growth. After all, China’s economy is the world’s second largest (behind only the U.S. economy) and China is the world’s most populous nation. Therefore, what happens in China, at least economically, affects just about every other country in the world.

Due to China’s economic slowdown, the International Monetary Fund (IMF) has lowered its five-year global economic growth outlook by almost four percentage points since 2010. After the 2014 China growth rate of 7.4 percent was announced, the World Bank lowered its estimate for global economic growth this year from 3.4 percent to just 3.0 percent.

Meanwhile, most economists are forecasting that economic growth in China will slow down even more this year. The IMF’s forecast for China’s 2015 GDP growth rate is 6.8 percent, while Oxford Economics predicts growth of just 6.5 percent — and future growth below six percent for the foreseeable future.

Avoiding a Hard Landing

The latest Global Economic Prospects report from the World Bank lists a “hard landing” of China’s economy as one of the biggest risks to the health of the global economy. “A sharper decline in growth could trigger a disorderly unwinding of financial vulnerabilities and would have considerable implications for the global economy,” the report stated.

In fact, each percentage point decline in China’s GDP growth from what is expected could reduce global GDP growth by one-half of a percentage point, says the World Bank. This, in turn, is likely to push down commodity prices even further. China’s slow economic growth is one factor among many others in the low prices of oil and gasoline, and the projections of continued low prices at least through 2016.

From a global economic perspective, China’s economy picked a particularly bad time to start slowing down. Aside from the U.S. — which is finally growing, though not nearly as fast as it was at similar stages of past economic recoveries — the rest of the world’s nations are struggling economically.

For example, the euro zone could be facing another recession this year, which would be its third in the past six years. Japan is still waiting for the sustained economic turnaround promised by Abenomics. Moreover, growth in many major emerging markets is also slowing down faster than many economists expected.

Meanwhile, China’s slowdown could have an especially pronounced effect in Latin America, whose economies are heavily reliant on commodity exports. For example, the World Bank has cut its forecast for GDP growth in Brazil to just one percent this year, down from 2.7 percent as recently as last June.

What Caused the Slowdown?

China’s long run of strong growth has been one of the broadest and fastest economic ascents in modern world history. It helped raise the living standards of China’s enormous population and helped global growth and trade reach new heights.

So what happened? How did China’s red-hot economy suddenly start cooling down? There are a number of factors that contributed to the economic slowdown in China, starting with a severe housing slump. As IMF Chief Economist Olivier Blanchard recently put it: “The housing slowdown is more serious than we thought earlier.”

China has relied on real estate, construction and “smokestack” industries for years, but this appears to have reached its limits. In addition, the Chinese government implemented large economic stimulus measures after the 2008 financial crisis, which has limited the stimulus options that are available now.

As a part of its post-financial crisis economic stimulus, the Chinese government implemented large public spending programs that have resulted in what a recent article in The Wall Street Journal called “a plethora of white-elephant projects, such as nearly empty malls, ghost cities and bridges to nowhere.”

Is This a New Normal?

In light of the economic slowdown and forecasts for continued slow growth for the foreseeable future, the Chinese government has begun calling this the “new normal” for economic growth in China. One of the government’s goals is to restructure the Chinese economy so that it is more reliant on domestic consumption and service industries than it has been in the past.

Ironically, the U.S. could be one of the few nations that benefits economically from the Chinese slowdown. This is because the price of commodity imports from China could decrease. After China’s 2014 growth rate was announced, the World Bank raised its forecast of 2015 GDP growth in the U.S. from 3.0 percent to 3.2 percent.

Due to its status as the second largest economy in the world, the performance of China’s economy has ripple effects all across the globe. This makes it worth paying especially close attention to in the months and years to come.

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