Nothing tells so dramatically of China’s economic woes than the recent onset of deflation.
For two months now, Chinese consumer prices have dropped so that as of November, the most recent period for which data are available, they were some 0.5 percent below where they were 12 months ago. Prices at what China’s statistics bureau calls “the factory gate”—the equivalent of America’s producer prices—are down 3.0 percent over the past 12 months.
These are not big numbers, but they are telling. Americans, stressed as they are by inflation, might welcome such news. Still, deflation of any kind nonetheless signals trouble—for China, too much supply of the wrong things, insufficient demand, and a strained financial environment—nothing any economy wants.
Though most of the blame for this situation lies with Beijing, not all of it does. One is the situation overseas. Largely independent of Beijing, the two biggest markets for Chinese exports have cut back drastically on their buying. Europe is just about in recession, and the United States, though still showing aspects of economic health, certainly has slowed from the growth pace of earlier this year. Purchases of Chinese goods have also slowed because Brussels and Washington have exhibited a marked hostility to China trade.
The United States talks about “de-coupling” its economy from China’s, while Europe talks about “de-risking,” but in practice, they are the same. U.S. and European businesses are increasingly sourcing from places outside of China, and investment flows into China from the West, as well as from Japan, have waned.
These weights on a crucial aspect of China’s economy could not have been helped from within the country. Still, the extent of China’s vulnerability to export declines is largely Beijing’s fault. For years, the International Monetary Fund (IMF) has advised Beijing to diversify its economic effort away from exports and toward the domestic consumer, in general, and especially in services. Beijing has talked a good game about making such an adjustment. Still, the fact is its planners have continued to favor and pour economic resources—land, labor, and capital—into exports. Now that major markets in the United States and Europe have pulled back, China’s economy is suffering more from the loss of sales than it would have had Beijing made the adjustments of which it and the IMF spoke.
Manufacturers and wholesalers who have lost their overseas businesses have understandably tried to move some of their products into the domestic Chinese market. They have met with only modest success, partly because the sort of products suitable for export are not right for the domestic market.
Had the planners made the shift recommended by the IMF and endorsed in their leaders’ rhetoric, Chinese business would have been well on the way to the adjustment they so desperately need now. But that has not happened. Thus, a sudden shift of products to the domestic market, especially the wrong product mix, has contributed to the emerging deflation, which, in turn, has called attention to this failure to make needed adjustments.
But this is not all. The deflation also reflects and hence has called attention to the economic problems brought by the weight of bad debt on Chinese finance. The collapse of Chinese property developers and the overhang of debt among local governments have left Chinese financial institutions, private and state-owned, bereft of resources to finance the kinds of projects that would help the economy grow domestically.
Worse still, the collapse of residential real estate development has created a drop in real estate values and, with it, a decline in the net worth of the once-fast-growing Chinese middle class. Adding to this weight on consumer confidence is the income uncertainties left among Chinese households from the long stretch of lockdowns associated with Beijing’s zero-COVID policy. Households accordingly have cut back on their spending, a drop in demand that has slowed the pace of economic growth and, of course, also contributed to the emergence of deflation.
Meanwhile, Chinese Communist Party (CCP) leader Xi Jinping has done his personal best to hold back the economy. For years before the pandemic and even during that difficult time, he berated private Chinese businesses, large and small, accusing them of working against the Chinese people by pursuing profits instead of supporting the CCP’s agenda. He used government power to deny firms financing for expansion and, in so doing, cut off a source of growth and employment that otherwise would have existed.
It is then hardly surprising that private businesses in China are chary of spending for development and expansion. According to Beijing’s National Bureau of Statistics, the accumulated investment in fixed assets by private primary industry has actually fallen by some 10.6 percent over the past 12 months. Not only has this shortfall reduced demand and contributed to the deflation, but it has also slowed the pace at which China could have adjusted the economy away from its export dependence. There is a certain irony that Xi’s harsh rhetoric in favor of the communist agenda has made China more vulnerable to the United States and Europe.
It is not an encouraging situation. In the next month or two, Beijing may claim to have hit its target of 5 percent real growth for 2023. If it makes such a claim, there will be a lot of legitimate speculation—inside China and outside it—about how the statistics ministry has ginned up the numbers to make the CCP look good. It would not be the first time. If Beijing again settles on a target of 5 percent real growth for 2024, matters suggest that making it will involve a good deal of statistical legerdemain.
