Why China Isn’t Reacting Swiftly to Economic Slowdowns Despite Mounting Global Concerns

Despite weakening economic data, China’s leadership remains measured in its response, prioritizing long-term growth over immediate stimulus. President Xi Jinping's focus on advanced manufacturing and green energy has led to a cautious fiscal policy, leaving questions about how China will navigate its economic challenges.

China’s Restrained Economic Response Reflects Focus on Long-Term Growth Amid Global Uncertainty

This week, the Federal Reserve took decisive action to support growth in response to softening US economic data. Investors have been perplexed as to why the Chinese government has not also implemented a concerted reaction, even though the data it has received is weaker.

In reality, Chinese fiscal policy has demonstrated signs of restricting rather than loosening. In Beijing, monetary policy does not exhibit any indication of alarm. Earlier this month, President Xi Jinping called on government officials to achieve the country's annual growth objective of approximately 5%. However, his language was less forceful than is customary.

One school of thought posits that Xi and his lieutenants may exercise caution in anticipation of the upcoming US election. If former President Donald Trump is reinstated and implements his campaign promises to increase tariffs on Chinese imports, the Chinese economy will require additional stimulus. Consequently, it may be prudent to retain your bazooka.

A more fundamental argument posits that Xi is not particularly dissatisfied with the economy. This is due to the success of the primary sectors he is concentrating on, known as "new productive forces." He does not intend to establish China's economic future based on housing, the most significant development inhibitor. The keys are advanced manufacturing, high-tech products, green energy, and transportation. Additionally, they are making rapid progress.

The most recent consumer spending figures from China are stark. Compared to the same period in 2023, retail sales increased by 3.4% in the first eight months of the year. In contrast, the average growth rate during the three years preceding the pandemic was 9.3%.

The underlying deficit is a combination of stagnant wages and a pessimistic sentiment, which has resulted in households opting to accumulate more savings. The real estate crisis has further exacerbated this situation.

In recent years, certain local governments have encountered difficulties fulfilling their payroll obligations due to the cessation of land sales revenues. According to JPMorgan Chase, the financial sector and state-owned enterprises' compensation limits have resulted in declining expectations for employment and income.

“The biggest threats for China’s consumption recovery are weak income expectations, the erosion of consumer confidence, the shrinking of upper-middle income groups and the new trend of consumption downgrade,” JPMorgan economists led by Haibin Zhu wrote in a note this month.

China’s Limited Stimulus Highlights Focus on Industrial Growth, Despite Lagging Consumer Confidence

Nevertheless, policymakers' response has been restricted. According to Bloomberg calculations, China's broad budget expenditure decreased in the first eight months of the year, as evidenced by data released by the Ministry of Finance on September 20.

China's monetary policy differs significantly from developed market economies, where central banks primarily employ bond purchases and interest rates decrease. In China, the state-owned institutions that dominate the financial system are subject to official guidance regarding the extension or contraction of credit.

Additionally, officials can influence the issuance of corporate bonds and stock. That is why the "China credit impulse" gauge is a reliable indicator of China's overall monetary posture. This gauge calculates the aggregate of lending, debt, and equity issuance as a percentage of the economy.

The chart below demonstrates the substantial stimulus implemented during the global financial crisis of 2007-09, following China's significant domestic slowdowns in 2012 and 2015 and the pandemic year of 2020. Since January of this year, the impulse has decreased.

Although broad macro stimulus may be absent, there is ample backing for Xi's highly sought-after new productive forces. This has contributed to the industrial sector of the economy appearing considerably more optimistic than the consumption sector.

Industrial output increased by 5.8% from January to August, the most significant increase since the distorted 2021 rebound from the initial COVID-19 hit the previous year. It also barely deviates from the 6.3% average observed three years before the pandemic.

Certain elements were particularly noteworthy. In August, the production of electric vehicles experienced a year-over-year increase that exceeded 30%. The aggregate growth in value added in high-tech industries was 8.6%.

According to Capital Economics, exports are also experiencing a surge. They have contributed approximately two percentage points to China's growth thus far this year—the second-highest contribution since 2010.

Beijing's strategy is risk-free. Andrew Polk, the co-founder and director of economic research at Trivium China, is concerned that consumer confidence levels continue to be depressed, nearly two years after Covid restrictions were lifted.

“You blink your eyes, and that becomes five years, and all of a sudden you're looking at maybe a lost decade,” Polk said in an interview this week. “I don't really subscribe to the theory of the Japanification of China's economy. But it's not an impossible occurrence.”

Up to now, the leadership has “whiffed” on reinvigorating private-sector confidence and measures to stoke a property-sector rebound, Polk says. Failure to respond adequately to domestic cyclical downturns like the current one would leave China “in danger of really shifting down into a lower gear,” he said.