October 14, 2024

Editor’s note: This is a commentary written by Deng Yuwen for Voice of America. The views expressed in this commissioned article do not represent those of Voice of America. If republished, please credit VOA or Voice of America.

Over the past week, China’s two main macroeconomic management bodies, the National Development and Reform Commission (NDRC) and the Ministry of Finance, held press conferences announcing a package of incremental policies to rescue the economy. However, due to the lack of specific figures, the market has cast doubt on the effectiveness of these policies, causing China’s stock market, which had surged before the National Day holiday, to experience a sharp drop last week. The stock market, which had barely recovered thanks to aggressive moves by the central bank, once again took a hit. This reflects how extremely difficult it is for any hesitant economic rescue measures to stabilize or boost market confidence in the face of China’s weak economy.

China's Economic Troubles Have Been Years in the Making

The economic difficulties China faces today did not arise overnight but have accumulated over many years. Behind the long period of high growth, serious problems were building up in the economy. Before Xi Jinping took power, and even in the early part of his first term, these problems had not fully manifested. However, from around 2015 onwards, under the influence of misguided policies, various economic aftereffects began to emerge rapidly. The government used the term "three-fold overlay" to describe this phase, referring to the simultaneous occurrence of three phenomena: the shift in economic growth speed, the painful adjustment of the economic structure, and the digestion of previous stimulus policies. Before the 20th Party Congress, the authorities were already using this assessment as a basis for addressing the economy.

After China lifted its pandemic restrictions, some scholars pointed out that the economy was now facing a "new three-fold overlay" on top of the original one. This new phase includes the post-pandemic recovery, the rebuilding of market confidence, and the optimization of macroeconomic policies. The first refers to the fact that consumer spending and business investment have not yet returned to pre-pandemic levels. The second refers to the low expectations and confidence of market players. The third points to the diminishing effectiveness of traditional macroeconomic policies. The combination of the "old three-fold overlay" and the "new three-fold overlay" shows just how severe China’s economic situation has become.

However, neither the official "old three-fold overlay" nor the scholarly "new three-fold overlay" explanations address the root causes of these issues. If the "old three-fold overlay" is largely the responsibility of previous governments, then the "new three-fold overlay" must be attributed to Xi's administration. Xi’s harsh and incorrect methods in trying to resolve the problems of the "old three-fold overlay," coupled with the brutal lockdowns during the pandemic, exacerbated these issues instead of solving them. This does not even take into account the negative impact of Xi’s political centralization, complete Party control over all aspects of society, and ideological shift toward Maoist principles.

As a poor and underdeveloped nation, China’s reliance on investment and exports, with less emphasis on consumption, was almost inevitable in its pursuit of rapid development in a short period. However, the problem with the Chinese government is that even after experiencing a period of high economic growth and a serious imbalance between investment and consumption, it continued to rely on the investment-driven model to fuel growth. By the time Xi came to power, traditional industries were already suffering from severe overcapacity, leading to low corporate profits and slow income growth for workers, weakening the momentum for further economic growth. Xi recognized these problems and sought to adjust the industrial and economic structure, but he was overly ambitious and impatient. In the name of supply-side reform, he aggressively pursued measures to reduce overcapacity and leverage, often violating market principles by using administrative means to intervene in the economy, believing that the government could quickly achieve results through its own efforts. This was particularly evident in the suppression of the real estate and internet platform sectors.

Policy Shift Equals a Declaration of Xi’s Economic Governance Failure

Real estate is crucial to people's livelihoods in China, with a long industrial chain and involvement in many sectors. It has become a pillar of the Chinese economy and a major contributor to local government finances. This is due to China’s irrational tax structure, which has made land sales the primary source of local government revenue. Additionally, the prosperity of the real estate market is often seen as a sign of local economic success, giving local governments strong incentives to support real estate development and welcome high housing prices. Over the past 30 years of China’s high economic growth, real estate has played a pivotal role. However, if the economy is excessively reliant on land finance and real estate-driven expansion, it will have serious consequences.

First, housing prices have skyrocketed, making it increasingly unaffordable for many people. Even those who can afford a home must pay a high price, which reduces the overall consumption capacity of society. Second, most social investment has been funneled into the real estate sector, leading to an over-concentration of capital in this area. As society expected housing prices to rise endlessly, the market thrived, making it easy for developers to secure bank loans. Meanwhile, other industries that needed funding struggled to obtain loans. Since the total amount of resources and capital in society is limited at any given time, the capital absorbed by real estate left little available for other industries, including the technology sector. Third, the expansion of real estate companies through debt carries significant risks. If the capital chain breaks, it could trigger systemic risks in the industry and affect banks and the financial system. Finally, local governments' over-reliance on real estate revenue means that once the housing boom ends, they will face severe debt problems as land sales revenue dries up.

For the past 20 years, China’s real estate sector has been driven by irrational prosperity. Xi Jinping recognized the crisis beneath this irrational boom and, in an effort to shift capital and resources away from real estate, sought to cool the housing market. However, the methods he employed to suppress real estate were misguided, including price caps, purchase restrictions, raising down payments and mortgage rates, and the strict "three red lines" policy. Combined with China’s declining population, these measures caused significant financial difficulties and even bankruptcy for many property companies. Local governments are now facing fiscal crises, which have in turn triggered waves of corporate bankruptcies, salary cuts for civil servants, and a mortgage boycott by homebuyers. The market has turned into a mess.

Xi's crackdown on internet platform companies has been equally relentless. Over the past 20 years, Chinese internet companies, led by Jack Ma's Alibaba Group, have grown rapidly, particularly in areas like internet applications and big data. The internet industry is not only highly technical but also capital-intensive, attracting substantial venture capital and financial backing, including capital linked to political elites. Given the internet’s open and interactive nature, it carries ideological implications that make the government wary. To survive, platform companies must avoid raising concerns about challenging the government’s ideology or control. As these companies grew, they sought political protection from powerful elites within the Party. However, this was precisely what made Xi most uneasy. He feared that these internet platform companies, with their vast technical power, could combine with elites opposed to him and threaten his rule by influencing ideology, finance, and politics. Consequently, Xi did not hesitate to impose stringent regulations on these companies, halting Ant Financial’s IPO right before its listing, forcing Didi to withdraw from the U.S. stock market, and cracking down on companies like New Oriental in the education and training sector.

Over the past seven years, Xi’s economic governance has not been limited to these two areas. His administration has also implemented strict regulatory policies in the financial sector and allowed public opinion to stigmatize private enterprises and entrepreneurs. As U.S.-China tensions intensified, Xi’s approach to economic management created an impression that prioritized security over development, which severely damaged market confidence. As a result, robust economic growth became impossible. The stock market, always a sensitive barometer of economic conditions and policy environments, has continued to decline.

Transition to a New Growth Driver Proves Difficult

This year marks the second year of Xi’s new government following the 20th Party Congress. At the beginning of the year, they set a target of 5% economic growth, but based on data from the first three quarters, it seems difficult to achieve this goal. If the economic downturn before the 20th Congress could be blamed on the pandemic and lack of cooperation from Li Keqiang, the current economic decline cannot be attributed to external factors—it is the result of Xi’s administration’s mismanagement. Therefore, both Xi and Premier Li Qiang are under pressure to ensure the economy grows by at least 5% this year. With only three months left, achieving this target requires a substantial and unexpected policy stimulus to boost the market. However, doing so would also mean admitting that Xi’s economic governance over the past seven years has failed.

Although the National Development and Reform Commission and the Ministry of Finance have announced a package of incremental policies, they did not, like the central bank, provide specific figures or measures to inspire market confidence. Nevertheless, the government has clearly shifted its macroeconomic policy approach from contractionary to expansionary. With the stimulus in place, China may still be able to meet its growth target this year, but that does not mean the economy has emerged from the doldrums or regained confidence. For a super-sized economy like China’s to achieve stable and healthy growth, it must be driven by consumption rather than investment, much like the U.S. Currently, China’s final consumption market is less than half the size of the U.S., which suggests that China still has significant growth potential. However, this can only be realized if the government’s political and economic strategies don’t go astray. Unfortunately, this is the least guaranteed aspect.

Since the founding of the People's Republic of China, the country has faced problems in income and wealth distribution, including low wages for workers, insufficient social security, inadequate public services from the government, extreme wealth concentration among a small elite, and a wide gap between rich and poor. These issues have not received adequate attention from the authorities. If these problems are not addressed in the future, the economy’s growth driver will not be able to shift from investment-led to consumption-led growth, and the transformation will remain unrealized. The incremental stimulus measures recently introduced address immediate urgent needs but do not address the fundamental issue of transforming the growth model.

Deng Yuwen is a special commentator for Voice of America. He previously worked as a journalist in China and now resides in the United States. He describes himself as someone who "once lived on the fringes of the system, and thus is better able to see through the absurdities of the so-called ‘New Era.’”