Once again, the Chinese economy is confounding the naysayers. At a minimum, incoming data point to a bottoming of the latest cyclical downshift – dispelling the fears of many who believed that China was finally headed for a hard landing. Moreover, signs are increasingly evident that the Chinese economy may experience a mild rebound in the second half of 2013, with real GDP growth accelerating toward 8%.
That’s the tentative verdict that can be taken from a rebound in most of the high-frequency data on the real economy for August – ranging from the Purchasing Manager’s Index (PMI), fixed investment and exports to industrial output, electricity production and retail sales.
The PMI rebound is especially encouraging in that it is a key leading indicator of the manufacturing cycle that has long underpinned the modern Chinese economy. While it hit a 16-month high in August, adjusting for recurring seasonality, the PMI moved up even more sharply to a three-year high. Gains were most pronounced in the forward-looking orders component and were especially concentrated in large enterprises.
Looking at the broad cross-section of the August data flow, in conjunction with first glimmers of improvement reported for July, the odds have shifted toward a reacceleration in Chinese economic growth in the second half of this year.
In contrast to earlier cyclical rebounds in China, however, this one is likely to be more modest. This is by design – not by accident. Unlike cyclical shortfalls of the past that triggered massive pro-active investment stimulus packages and aggressive monetary easing, the new leadership is keeping its powder relatively dry. Monetary policy seems particularly focused on weaning China from the debt-intensive growth impetus of the past five years, and fiscal initiatives have been far more limited than in the past – focused mainly on China’s strategic emerging industries such as new generation information technology, alternative energy and environmental protection, as well as on some targeted infrastructure initiatives.
This reflects a new strategic emphasis to China’s growth strategy, namely a rethinking of the balance between cyclical and structural tactics.
In days past, Chinese macro managers were captives of the business cycle: A short-term weakening in the economy sparked stimulus and overheating triggered a tightening of demand management policies. They addressed these problems with the blunt instruments of macro stabilization policies aimed at the quantity of aggregate GDP growth – paying little consideration to the more subtle dimensions of the quality of the growth experience. While that served China well in coping with the short-term vicissitudes of global shocks, such as the Asian financial crisis of 1997-98 and the global crisis of 2008-09, as former Premier Wen Jiabao warned, this approach also led to a steady build-up of imbalances that ultimately threatened the long-term stability and sustainability of the Chinese economy.
China’s new Fifth Generation leadership, headed up by President Xi Jinping and Premier Li Keqiang, seems to have reached a very different conclusion on its macro management strategy of the Chinese economy. They are resisting the timeworn inclination to opt for hyper-growth – GDP-based rebounds in excess of 10% – as the antidote to a shortfall in Chinese economic activity. They correctly view such a response as part of the problem of long simmering imbalances, namely excess resource consumption, environmental degradation and pollution, and widening income inequalities, rather than the solution.
As a result, Premier Li, now the senior manager of the world’s second-largest economy, has been quite clear in arguing that the balance of China’s macro management needs to shift away from aggressive cyclical stabilization policies toward a more sustainable structural rebalancing. He underscored that commitment, along with added emphasis on the imperatives of financial reform, in a recent speech delivered at the “Summer Davos” in Dalian on September 12. His address was long on rhetoric but short on specifics – a deficiency that hopefully will be addressed up the all-important upcoming Third Plenum of the 18th Central Committee in November.
In the same sense, some tentative signs of progress on the road to Chinese rebalancing are encouraging. Growth in services activity (the tertiary sector) is accelerating, and in the first half of 2013 expanded by 8.3% year on year, markedly faster than the combined 7.6% growth of manufacturing and construction (the secondary sector). This could well be the early stage of an important reversal from China’s long-standing growth pattern where services have lagged the traditional growth drivers of manufacturing and construction. Moreover, with services more job-intensive, less reliant on resources and therefore less pollution-prone, and better able to facilitate the employment imperatives of rural-urban migration and urbanization, they hold considerable promise for a sustainable structural rebalancing.
China’s structural agenda needs more than just services-led growth. It could benefit greatly from new policy initiatives at the November Party sessions. It is vital for the new leadership to use this critical gathering to push ahead in several areas – especially Hukou reform (of the household registration system), liberalization of deposit interest rates following the recent reforms of lending rates and the funding of an inadequate social safety net (i.e., social security and health-care). These measures are all necessary to temper the excesses of fear-driven precautionary saving of Chinese households and stimulate consumer demand.
The cyclical-structural tradeoff introduces a new and important dimension to China’s macro policy strategy. Short-term, or cyclical, growth shortfalls are not to be taken lightly. Should a major shock reoccur – either internal or external – Chinese authorities will undoubtedly be quick to respond as they have in the past. But in the face of a more manageable downshift, such as the one of the past couple of years, there is good reason for the economic leadership team to seize the opportunity and move ahead forcefully in addressing China’s structural imperatives.
With the current downshift bottoming out, that opportunity is now at hand. A Chinese economy poised for a modest acceleration back toward the 8% growth zone, provides breathing room for the implementation of a more aggressive structural agenda. Therein lies one of modern China’s greatest strategic opportunities.
Stephen S. Roach, a faculty member at Yale University and former Chairman of Morgan Stanley Asia, is the author of The Next Asia (Wiley 2009) and Unbalanced: The Codependency of America and China (Yale University Press, forthcoming January 2014).
This article originally appeared in the Global Times.