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The slowdown in China
Signs of a slowdown in China have been accumulating since last summer. Electricity production has fallen sharply and growth of industrial production has reached its lowest level since 2009. The growth rate of the economy has slowed to 7.4% in 2014, following 7.7% in 2013, and the slowdown looks set to continue in 2015.
China's economic success hinged for a long time on international trade. Driven by its export sector, the country managed to post double-digit growth rates year after year. The economic crisis that began in 2008 led to a strong contraction in global trade, posing an immediate challenge for China. It reacted swiftly and decisively by initiating a wide-ranging public investment programme - new loans granted by commercial banks to the non-financial private sector accounted for 32% of GDP in 2009 alone. Investment, which now accounts for around 50% of GDP, has become China's main growth driver since 2008.
But this investment has also come hand in hand with significant growth in credit. Even if household and central government debt remains modest in international comparison, credit to local authorities and businesses has risen sharply, notably in the real estate sector. China's internal debt (excluding the central government) is close to 200% of GDP, having increased by over 70% since 2008. In the long run, growth cannot be based on an exceptional increase in investment and credit. This is reflected in the excess capacity that has started to build up in some sectors.
The challenges associated with the rebalancing
In the face of these growing imbalances, the Chinese authorities have reacted by tightening credit conditions and strengthening supervision of the financial sector, particularly shadow banking, i.e., financing activities that are not overseen by conventional banking supervision, and of the financing of local authorities. Banks, for their part, have recorded a strong increase in bad loans, they were up 36% year on year in September 2014. New financing flows have dropped by roughly 30%. The necessary slowdown in credit growth has thus begun: the annual growth rate of China's internal debt (excluding the central government) has been reduced from 18.4% to 14.2% in the space of a year.
Investment and the real estate sector
This has impacted investment, particularly in the real estate sector. From January to November 2014, total investment growth fell from 19.6% to 15.8%. Over the same period, growth in real estate investment slipped from 20.3% to 11.9%. The real estate sector has slowed down significantly. In November 2014, sales volumes had fallen by 11.1% compared to a year earlier. New house prices are down significantly in a record number of cities.
Central bank actions
In order to avoid a hard landing, the central bank has taken a number of accommodative measures in the last few months. It has reduced mandatory reserve ratios for small credit institutions, worked to strengthen credit for small and medium-sized companies, and in November cut interest rates. More broadly, financial sector reforms and the gradual liberalisation of interest rates are moving ahead.
Public investment in infrastructure, which continues to grow at a rate of around 20%, also remains a major support factor. Even if these accommodative measures have prevented a more violent adjustment in the short term, the main question is still whether domestic consumption will be strong enough to take over from exports and investment in the Chinese growth model.
BGL BNP Paribas
Published in the Luxemburger Wort (in French) on 21 January 2015.