LONDON – One question has dominated the International Monetary Fund’s annual meeting this year in Peru: Will China’s economic downturn trigger a new financial crisis just as the world is putting the last one to bed? But the assumption underlying that question – that China is now the global economy’s weakest link – is highly suspect.
China certainly experienced a turbulent summer, owing to three factors: economic weakness, financial panic, and the policy response to these problems. While none on its own would have threatened the world economy, the danger stemmed from a self-reinforcing interaction among them: weak economic data leads to financial turmoil, which induces policy blunders that in turn fuel more financial panic, economic weakness, and policy mistakes.
Such self-reinforcing financial feedback is much more powerful in transmitting global economic contagion than ordinary commercial or trade exposures, as the world learned in 2008-2009. The question now is whether the vicious circle that began in China over the summer will continue.
A sensible answer must distinguish between financial perceptions and economic reality. China’s growth slowdown is not in itself surprising or alarming. As the IMF noted, China’s growth rate has been declining steadily for five years – from 10.6% in 2010 to a projected rate of 6.8% this year and 6.3% in 2016.
This deceleration was inevitable as China advanced from extreme poverty and technological backwardness to become a middle-income economy powered by external trade and consumer spending. It was also desirable, because rapid growth was hitting environmental limits.
Even as the pace of growth slows, China is contributing more to the world economy than ever before, because its GDP today is $10.3 trillion, up from just $2.3 trillion in 2005. Simple arithmetic shows that $10.3 trillion growing at 6% or 7% produces much bigger numbers than 10% growth starting from a base that is almost five times smaller. This base effect also means that China will continue to absorb more natural resources than ever before, despite its diminishing growth prospects.
Yet China is causing high anxiety, especially in emerging countries, largely because financial markets have convinced themselves that its economy is not only slowing, but falling off a cliff. Many Western analysts, especially in financial institutions, treat China’s official GDP growth of around 7% as a political fabrication – and the IMF’s latest confirmation of its 6.8% estimate is unlikely to convince them. They point to steel, coal, and construction statistics, which really are collapsing in several Chinese regions, and to exports, which are growing much less than in the past.
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