Wed, Sep 09, 2015 - Page 8 News List

China’s economic alarms ring false

By Wei Shang-jin 魏尚進

To hear some pundits tell it, China’s economic miracle — one that lifted 300 million people out of poverty and shifted the world’s geopolitical center of gravity — is coming to a tumultuous end. The volatile stock market and the Chinese yuan’s “surprise” depreciation are signs of imminent economic collapse, according to this view, as risky investments and high levels of government debt put the brakes on decades of turbocharged output growth.

Fortunately, there is little reason to believe such dire predictions, or that the market gyrations that have been driving recent headlines represent anything more than short-term volatility. After all, equity price movements are a poor predictor of the real economy’s performance.

Indeed, when Chinese GDP was growing strongly between 2010 and 2013, stock prices were falling. More recently, when stock prices began soaring during the first half of this year, the economy’s slowdown had already begun. As the US economist Paul Samuelson famously quipped: “The stock market has called nine of the last five recessions.”

China’s growth has slowed largely as a result of changes in its fundamentals: less favorable demographics, a shift in emphasis from exports and public investment to the service sector and domestic consumption, and lower demand from advanced economies.

However, China’s past success also contributed to this slowdown, in the form of higher wages, which narrow the scope for rapid growth based on low-cost labor and technological catch-up.

Additional signs of weakness, including soft data on exports and investment, emerged in the first half of this year, but other important indicators — like retail sales and housing — show upticks. And, perhaps most important, the country’s labor market remains healthy, creating some 7.2 million new urban jobs — many of them in services — in the first half of the year. Meanwhile, wage growth remains strong and uninterrupted.

China’s growth rate might be lower than 7 percent this year, but I do not believe that it will end up very far from the government’s target of “about 7 percent.”

The volatility in equity prices in recent months has more to do with the peculiarities of China’s stock markets than with the country’s underlying economic fundamentals. In more developed economies, such as the US and Europe, many institutional investors — who tend to be focused on long-term fundamentals — help stabilize stock markets. By contrast, the Chinese markets are dominated by retail investors, who are more likely to pursue short-term gains and engage in momentum trading, thereby exacerbating volatility and creating a greater disconnect between equity prices and real economic growth.

Moreover, the firms listed on China’s stock exchanges are not representative of the country’s companies. For example, majority state-owned firms account for two-thirds of the market value of the country’s exchanges, though they are responsible for no more than one-third of Chinese GDP and an even smaller share of employment.

The rise and fall of the Chinese stock market should also be understood in the context of Chinese households’ limited options for storing savings. The run-up in prices took place at a time when deposit interest rates were officially capped. When the alternatives are few and provide only low returns, the equity market looks more attractive, especially if — as was the case — the country’s major newspapers are running bullish editorials about stock prices.

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