Although policymakers have some big levers to pull, including possible expansionary monetary and fiscal policy, that may underpin real economic activity for some time, China’s long-term real gross domestic product (GDP) growth prospects have dimmed. The slowdown is not unexpected.
In 2011, Barry Eichengreen, Donghyun Park and Kwanho Shin, in a joint paper, warned of the pending slowdown in China’s growth. They identified a number of growth drivers, but the broad thrust of their argument was that economies could grow fast for a period by shifting labour from the primary sector to the secondary industry, while “importing” and applying technology from abroad. These developments typically boost productivity and GDP growth, but not indefinitely.
Ultimately, they observe, once an economy reaches a particular stage of development, a growth slowdown occurs as economies struggle to continue extracting robust productivity gains from these drivers. Characteristics of this “stage of development” include a median GDP per capita level of just over $15 000 (R201 317) in 2005 constant international prices and manufacturing employment of around 23 percent of total employment. Roughly, China is approaching this point.
Viewed from this perspective, the slowdown in China’s growth rate is, therefore, no surprise. But the question is just how prolonged and deep the slowdown will be.
Will throwing more capital at the problem help?
There is reason for concern. China’s fixed investment expenditure has been exceptionally strong for decades. Accordingly, the level of capital stock has increased sharply relative to both GDP and labour input. During the first decade of this century, China’s investment ratio climbed from about 30 percent of GDP to close to 50 percent, while the real capital stock increased, on average, by more than 10 percent per annum. This is exceptionally high and cannot continue indefinitely.
For a time, strong investment spending drives productivity and GDP growth. But as the capital stock continues to expand for a given level of GDP and labour, it becomes more difficult to sustain growth as an increasing share of investment goes towards replacing ageing plants and machinery. An increasingly smaller portion of investment is in new machinery and equipment.
Investment in property has already declined markedly, but overall fixed investment spending continues to outpace GDP growth, while the ratio of investment in output has remained high at close to 50 percent. It seems unlikely this can continue.
Declining demographics
China’s demographic trends are not favourable. The country’s working-age population is going into decline. GDP growth is a function of employment and productivity. Given a declining labour force, long-term growth is dependent on productivity growth. But, considering the above, productivity growth is likely to slow significantly.
Looking ahead, China’s economic growth seems set to disappoint materially, while a defining feature of further moderation in growth is likely to be a falling share of investment in GDP.
What does this mean for investors?
China is the second-largest economy and a net importer of commodities, which means commodities countries, like South Africa, will be affected. Investors will need to taper their expectations regarding equity returns over the next few years.
* Arthur Kamp is an investment economist at Sanlam Investments.
** The views expressed here do not necessarily represent those of Independent Media.
BUSINESS REPORT