1 Why Chinese economists are airing critical views of China’s economy
Chinese economists spotlight China’s economic woes
Two Chinese economists, Fu Peng and Gao Shanwen, recently made bearish observations and sensitive comments about the Chinese economy at two different conferences.
Fu Peng
Fu Peng, the chief economist at Northeast Securities, gave a speech on Nov. 24, 2024 titled, “2024 Year-end Review and 2025 Outlook — Hedging Risks vs. Soft Landing” at an internal investor meeting hosted by HSBC.
Fu made the following notable points:
- The operating mechanism of the global economy is akin to a pyramid. Ideology is at the top, followed by politics in the middle, with markets and assets at the base. Therefore, ideological shifts are the most significant changes in global economic cycles. Since 2016, the world has been transitioning from a left-leaning to a right-leaning orientation, signifying the unraveling of the post-World War II globalized order. The re-election of Donald Trump as U.S. president indicates that China will face challenges even tougher than in 2016.
- The lowest points in interest rates historically often coincide with the onset of wars. This is because interest rates inherently reflect wealth disparities, with lower interest rates corresponding to greater wealth inequality and higher interest rates indicating a narrowing wealth gap.
- China’s economic issues are far more severe than they appear on the surface, with the core problem being insufficient effective consumption. This issue emerged as early as 2019 and has become increasingly prominent. The issue is not a short-term phenomenon but a structural shift. Addressing this challenge requires boosting domestic demand, which hinges on redistributing interests between the government and households, the wealthy and the poor, as well as between debt and leverage.
- China’s real estate market model developed over the past two decades is no longer sustainable. The rise of the real estate market was primarily built on two pillars, namely, a demographic dividend and the amplifying effect of leverage. The wealth effect accumulated by the market’s beneficiaries in the short term essentially corresponds to the debt accumulated by another group of people over the same period. This model relies on younger generations “taking over the burden” of debt, but is no longer sustainable with stagnating income growth among the youth. This has led to the comprehensive collapse of the real estate market.
- China’s capital market accurately reflects the state of the economy, with only the semiconductor sector currently expanding.
- On the relationship between China’s producer price index cycles and policy: The government heavily invests resources to make certain industries competitive globally. Once the industry achieves a leading position, it is released into the market to compete. This often results in overcapacity, the elimination of weaker players, and redirection of resources into new industries. This “wave after wave” approach shortens industry cycles to just five years. However, the downside is that many industries quickly experience negative PPI, making them uninvestable by the time they mature.
- China’s continued negative PPI indicates that companies are unable to generate tax revenue, leading to a vicious cycle of financial strain and mounting corporate debt. Unlike in previous years when excessive market competition often led to winners thriving due to sustained consumer demand, domestic demand is currently insufficient. The only viable option left for businesses is to expand overseas.
- Fu criticized the government’s strategy to suppress youth unemployment by expanding undergraduate enrollment. He argued that the policy deferred unemployment at the cost of devaluing undergraduate degrees, and predicted that graduate and doctoral degrees will likely follow the same trajectory.
- China faces the crisis of currency devaluation, which is typical of emerging markets. The renminbi is under pressure due to insufficient effective domestic demand, excessive savings, declining returns on investment, and falling interest rates. Fu outlined two likely outcomes: i) Interest rate differentials will drive currency depreciation, and ii) Government debt pressure will worsen currency depreciation, leading to capital outflows. Rising interest rates could counter this, but doing so risks economic collapse and further exacerbates capital outflows.
- Fu criticized the suppression of discussions about economic challenges. He noted that the labeling of critics as unpatriotic or traitorous discourages honest dialogue. Also, decision-makers risk making critical errors without accurate feedback, which could potentially lead to disastrous consequences.
- Fu warned of the increasing risk of global war over the past two years. He noted that certain assets are no longer pricing in interest rates, exchange rates, or currencies, but rather the risks of war and economic decoupling. Fu said to look at Russia for examples.
Gao Shanwen
Gao Shanwen, chief economist at state-owned SDIC Securities, gave a speech titled, “Clouds Part, Light Emerges” on Dec. 3, 2024 at his firm’s 2024 strategy conference.
Gao made the following notable points:
- In analyzing economic transformation and cyclical pressures, Gao compared data on the operating income and market value proportions of neutral industries among listed companies. He concluded that the slowdown in China’s economy during the transformation process is not closely related to the economic transition itself but is more reflective of a decline in cyclical economic forces.
- In looking at consumption and income, Gao observed that post-pandemic, the younger a province’s population, the slower its consumption growth, but the older a province’s population, the faster its consumption growth. He surmised that the income expectations of older people remained unaffected while the income expectations of younger people have been significantly downgraded, resulting in the latter group adopting frugal spending habits. Gao described China’s elderly as being “full of vitality,” the youth as being “dispirited,” and the middle-aged as “disenchanted.”
- Gao said that a cumulative 47 million workers had been unable to find normal employment following the pandemic. Also, job quality has deteriorated in addition to declining employment.
- Gao said that China’s economic data showed abnormalities after the real estate bubble burst. Specifically, he estimated that China’s GDP growth could have been overstated by 10 percentage points between 2021 and 2023.
- Gao estimated that it would take about three to four years for China’s economic growth to return to levels seen before the real estate bubble burst, even under active government intervention.
Gao Shanwen and Fu Peng’s commentary went viral on Chinese social media. Subsequently, both economists were targeted by censorship. Fu’s video social media account showed a notice saying that access had been blocked. Meanwhile, access to Gao’s speech that was shared online was blocked, as well as local online mainland media reports that carried his comments. WeChat also appeared to block people from following Gao’s blog or reaching him there, with a notice saying that the account had violated rules.
State media hints that China may not hit 2024 growth target
PRC state mouthpiece Xinhua published four commentaries under the series “Q&A on China’s Current Economy” (當前中國經濟問答) between Dec. 3 to Dec. 6. The titles of the commentaries are:
- “How to View Economic Growth?” (經濟增速怎麼看)
- “How to View the Boosting of Domestic Demand?” (內需提振怎麼看)
- “How to View the Challenges of Corporate Operating Pressure?” (企業經營壓力挑戰怎麼看)
- “How to View the 12-Trillion-Yuan Local Debt ‘Combination Punch’?” (12兆元地方化債「組合拳」怎麼看)
The first commentary noted:
- Economic growth should be viewed not only in the present or short term, but also dialectically and with a long-term perspective. Valuing speed without fixating solely on it reflects the dialectical approach guiding China’s current economic development.
- China’s economy now places greater emphasis on achieving effective qualitative improvement and reasonable quantitative growth rather than simply using GDP as the sole measure of success.
- The annual economic growth target is around 5 percent and the PRC has been working tirelessly towards this goal. So “after hard work, it is acceptable to be a little to the left or a little to the right of 5 percent.”
China’s 10-year bond yield drops below 2 percent
On Dec. 2, China’s benchmark 10-year yields fell to 1.9810 percent, the lowest level since April 2002. The 10-year yield remained below 2 percent at the end of the week.
Our take
1. The insights of Gao Shanwen and Fu Peng suggest that China’s economic deterioration is much more severe than what the official data indicates.
i) Gao’s estimation that China’s GDP growth could have been overstated by 10 percentage points between 2021 and 2023, or about 3 percentage points on average per year, aligns with our estimates. We calculated that China’s GDP growth for the first three quarters of 2024 was actually 1.6 percent, or 3.2 percent lower than the official figure of 4.8 percent.
ii) Gao’s observation about declining consumer spending, as well as Fu’s analysis of China’s PPI cycles, overcapacity, and the limited expansion of the capital market, support our view that we have been constantly making since 2023 that China is slipping into deflation. The insights of the two Chinese economists suggest that mainstream investors have been overly optimistic about the state of China’s economic recovery and are likely to be in for further disappointment.
iii) Fu’s argument that ideological shifts are the most significant changes in global economic cycles suggests that he is pessimistic about the future Sino-U.S. relations and the worsening of China’s economic challenges. Fu indirectly explains that long-term cyclical changes have undermined China’s strategy of aggressively subsidizing industries to dominate globally, while the re-election of Donald Trump will worsen the outlook for Chinese exports. Worse, China’s previous growth model is no longer viable following the collapse of the real estate market, worsening demographic issues, and poor job prospects for the “dispirited” Chinese youth.
iv) Fu notes that the redistribution of interest is central to addressing China’s demand problem. However, interest redistribution would call for political reform, and the CCP is unlikely to carry out meaningful political reform given that Xi Jinping is strengthening authoritarianism and has called for “not changing what does not have to be changed.” Assuming that Fu’s assessment is correct, then China’s core economic issues remain unresolvable and the PRC is moving inexorably towards a crisis point.
v) The economic challenges facing China as outlined by the two economists are likely what inspired the CCP authorities to adjust economic policy at the end of September. State media’s recent acknowledgment that Beijing’s growth target for the year might not be met also hints at the severity of those economic challenges.
2. There are several possible reasons why Fu Peng and Gao Shanwen spoke openly about the sensitive issue of China’s economic problems.
i) Fu and Gao could simply believe that they were doing their “patriotic duty” by drawing the CCP leadership’s attention to the problems in the hope that Beijing would make more tangible efforts to address them instead of using propaganda to obscure the truth. For instance, the CCP authorities have been consistently denying that China is experiencing deflation until this September when former People’s Bank of China governor Yi Gang said at the Shanghai Bund Summit that China should focus on countering deflationary pressures.
Fu and Gao could have been emboldened after examining signs that the CCP authorities were keen on taking the economic challenges seriously. From the second half of 2023 onwards, the CCP leadership held a series of symposiums with economists and entrepreneurs to gather input on rescuing the economy (see here, here, here, here, here, and here). Also, Yi Gang’s acknowledgment of deflation led some Chinese economists to begin cautiously discussing the matter and countermeasures, including the recommendation that the government should increase fiscal spending to mitigate risks. Finally, the “sharp pivot” in China’s economic policy at the end of September led many economists to believe that top leaders in Beijing (often implicitly referencing Xi Jinping) were compelled by the dire economic situation to make adjustments, and encouraged some to carefully but boldly call attention to some of China’s real economic issues.
ii) It is possible that senior CCP officials responsible for managing the economy but who are afraid of directly bringing up their concerns to Xi Jinping “encouraged” relatively independent economists like Fu Peng and Gao Shanwen to go publicly about China’s economic challenges. In doing so, those senior officials hope to alert Xi about the gravity of the situation without endangering themselves politically, and prompt Beijing to correct past policy missteps.
iii) The PRC business and political elite could be pressuring Xi Jinping through various means, including encouraging economists to expose China’s economic challenges, to highlight the extent of economic deterioration in China, compel Beijing to shift policies (thereby profiting in the process), and undermine Xi’s “quan wei” (authority and prestige).
The signs are out that Beijing’s September policy shift has been insufficient in turning around market sentiment and changing the grim outlook on China’s economy. Notably, the falling of China’s benchmark 10-year yield to below 2 percent indicates that investors prefer the safety of government bonds over riskier debt and equities under current economic conditions. Should the Xi leadership implement large-scale fiscal measures to turn the economy around, the Party and business elite would be able to find various means to capitalize on the new wave of stimulus for self-enrichment.
