China has started to shift from a traditional manufacturing investment-export led model to a new services and consumption driven economy. However, this rebalancing act appears to have affected economic growth. In 2015, the Chinese economy slowed to 6.9%, the weakest in over two and half decades.
Government policies which led to the broadening of equity ownership and resultant financial instability sent global financial markets into a tailspin last august. In response, the Chinese government had to devalue the renminbi to keep the Foreign Institutional Investors (FII) afloat, although the policy is only expected to minimize short term risks.
Another challenge faced by the country is that of major price decline as there is an oversupply of goods in the domestic market.
Rise in wages in China has begun to weigh upon Chinese industries- The ‘Shanghai’s monthly minimum wages for instance, the highest in China has risen from approximately $165 in 2010 to $320 in 2016. As a result of the higher wages, manufacturing industries appear to move out of China to lower-cost destinations such as Vietnam and Myanmar. This could possibly be on account of Chinese’ rising Dependency on imported raw materials coupled with growing wages rate which have increased output costs, in turn making Chinese products uncompetitive in global markets.
Data reveal that China’s index of industrial production (IIP) has undergone a slump in the past 5 years. With regard to the impact of exchange rate on industrial production, often devaluation (downward adjustment of local currency) can boost production, given that devaluation allows foreign investors to buy more goods and services with the same amount of money. In the case of China, however, the correlation is negative from the last 5 years trend.
There are now fears of a slowdown in China with the possibility that China’s real GDP growth could average 2%. Any slowdown and change in the structure of the Chinese economy are likely to have important implications for other economies. The Global Vector Auto Regressive (GVAR) model which has been widely used by the International Monetary Fund (IMF) and other international agencies to analyze the international macroeconomic transmission of shocks suggests that spillover effects from China’s slowdown to the rest of the world varies across countries. The model analyses both the direct and indirect impact of shocks. Given that China’s share in the United States’ manufacturing imports touched 24.4% in 2015, spillover effects on the United States are likely to be considerable. Similarly, Hong Kong, Japan, and South Korea which together depended on China for 25% of their 2015 imports are also likely to experience considerable spillover effects.
The impact on Germany, the United Kingdom, and the Netherlands at 8.2% (in 2015) together will be at moderately low along with other ASEAN trading partners.
External risks for the Chinese economy include a proposed 45% import tariff on Chinese goods as proposed by the US President Donald Trump. It is, however, also likely that China would respond with retaliatory tariffs, resulting in trade wars.
China’s outlook for 2017 is majorly dependent on issues such as- weaker Yuan, property market slowdown, and growing debt in the financial system. These economic clouds will loom large over the next 6-12 months unless there are some changes to the reforms, which can provide some positivity to the country’s economy.