Another Economic Bubble Burst Ahead – China? (Part 1)

Most economists would agree that just as there is much euphoria surrounding an economic boost for a country, there is also an implicit economic phobia with regards to its authenticity and sustainability in the longer term. Historical analyses of economic empires depict a cyclical trend of economic mayhem and plummeting after attainment of the pinnacle of distinctive economic super power status. As a matter of fact, the demise of these economic empires has been observed to occur immediately after certain macro-economic factors characterizing “super heating” of these economic icons becomes evident. In actuality, the epoch of economic cataclysm of the empires dates as far back as the time of the Persian empire to now a period of time during which the world has witnessed the downfall of many economic empires including but not limited to the Roman empire, U.K, Japan and possibly U.S.A. Apparently, there is a high degree of consecutiveness between the emergence of economic empires and their subsequent economic debacle. That means the world continues to see the rise of economic empires as well as their demise in fulfillment of biblical prophecy and also in conformity with one of the sayings of King Solomon which states that “To everything there is a season, a time for every purpose under heaven”.

Now, the objective of this article is not to explain the rational behind the prophetic and proverbial tendencies but to assess and enlighten the world about the need to be wary of the emerging economic super power China and the possibility and ramifications of its demise in the near future. China according to analyst is expected to overtake the U.S in economic output based on GDP in the early years of 2020. China currently has managed to increase its market share of the world market economy with leading economic indicators all pointing to a positive outlook. For example, China has comparatively higher range of GDP figures such as from a value of 13.0% (2007) to a value of 8.4 %( 2009 forecast) in spite of the fact that U.S still maintains its position as having the largest economy in the world. In 2006, the Chinese economy was about $2.68 trillion worth and this was about a fifth of the size of the US economy [OECD 2009]. Also, its current account balance as percentage of GDP has changed from 11.0 %( 2007) to 5.6 %( 2009 forecast); fiscal balance as percentage of GDP from 0.7 %( 2007) to -3.3 %( 2009 forecast); consumer price index from 4.8(2007) to -0.8(2009 forecast) and changes in inflation from 7.4(2007) to -3.1(2009 forecast). The country also experienced increase in foreign exchange rate reserves from $1528 billion (2007) to $2392 billion (2009 forecast) [China Economic Report, 2009] . The current account balance which comprises of balance of trade, factor income payments and transfer payments experienced a drop due probably to the worldwide recession. Balance of trade covers payments for export and import of goods and services whilst factor payments encompass income from foreign investments in financial assets or securities. Transfer payment is the net worth of grants, aids given and received internationally. In fact, a major part of the country's current account is dependent on the net exports (balance of trade) and this is likely to have a ripple effect on its GDP as that also depends greatly on net exports. Ultimately, the drop in balance of trade presupposes that much of the GDP growth is coming from domestic or consumer spending just like it happens in the United States economy. In addition, it is likely that the country exported goods and service as much as it imported with a resultant minimal change in balance of trade. Nevertheless, the good news is that at least the current account is a surplus and not a deficit which means the revenue from trade, income and transfer payments at least exceeds the expenditure from these transactions. Consequently, this is a cash inflow for China's economy.

Generally, the country rely more on trade to boost its economic growth and any global slump is likely to affect its economy seriously unlike the U.S that relies on consumer spending. The repercussion in the decreased current account balance is likely to retard the investment climate in the country and subsequently the GDP growth. The negative fiscal imbalance (predominantly vertical imbalance) suggests the negative impact of fiscal decentralization and the monetary imbalance between the Chinese federal government and the provincial governments from the perspective of expenditure and revenue disbursements. Again, it implies an increase in transfer payments from governments to provinces because of less revenue available from the provinces coffers to meet its expenditure. China also experienced a reduction in consumer price index to a near zero value of 0.8 in 2009 forecast signaling technically a decrease in demand or in other words deflation. The deflation is yet again reflected in the negative inflation in 2009. Also, the country has the largest amount of foreign exchanges reserves (more than $2000 billion) in the world which makes it assume the status of the largest exporter of capital in the world. This also means that in terms of hot cash inflow into a country, China is ahead of the world.

Analytically, these comparatively stunning economic figures suggest the prospect and inevitability of China becoming the epicenter of the world economy. Added to these fact is that the country is playing a leading role in manufacturing, technology and financial sector of the world as it is fast spreading its tentacles in these sectors into almost every part of the world from Africa to Asia. Much as this is encouraging for the world, disappointments are plausible should any economic quake occur at this epicenter. Such a quake would definitely spread to every part of the world starting from Asia and spreading all the way to America. In fact, a lot of financial redeployment has occurred in the last few years for China. For example due to the low interest rate in the U.S and other western countries, a lot of Chinese investors have borrowed funds from these places where interest rate are low and reinvested it in the Chinese economy where interest rates are comparatively high. Some of these funds have also been used to buy US securities predominantly bonds and bills. In addition, there has been a massive government fiscal and monetary stimulus in support of its economy. A greater percentage of this stimulus found itself in the infrastructural sector and in the pockets of domestic consumers boosting domestic demand including the housing sector. Also recently, China embarked on the depreciation of its floating currency the renminbi (whose basic unit is the yuan) as a means to increasing net exports in the midst of the global recession.

Next, in spite of these encouraging developments, what is non-trivial is whether China would be able to implement and maintain appropriate effective fiscal and monetary policies to erase any imbalances in its economy and explicitly imbalances with the rest of the world. This calls for policies that can prevent the creation of bad debts and an “economic bubble burst” with spill overs to the rest of the world. Furthermore, policies that would incorporate the cost of a better environment in its industrialization to ensure compliance with the targets set at the recent climate change conference in Copenhagen. Also of significance are policies that would promote political freedom, investment freedom, labor freedom and freedom from corruption. Frankly, what the world needs from China in future are policies that can produce a cooling effect on its “heating” economy and a breaking effect which provides safe landing with avoidance of worldwide economic catastrophe. Optimist may argue that the expected slow recovery of the world's economy in the next few years would produce a breaking effect on the Chinese economy as global demand for goods, services and raw materials would barely increase stabilizing prices and keeping inflation low. Unfortunately, such economic figures analyses with respect to economic growth of economies have been continuously revised substantiating the degree of uncertainty surrounding its veracity.

Finally, the question that needs to be asked is whether China is susceptible to an economic bubble burst now or in future and should the world be worried about that. In the next part of this article the author would give some reasons why the world should be wary of the pace of economic growth for China and the amendment the country needs to make to reduce the negative impact on the world should there be any failure. Watch out for part 2 of this article!!

Source: Charles Horace Ampong [MSc(Eng), MBA(Finance)]

GLG Councils Consultant
Blog: http://charliepee.blogspot.com

Development / Accra / Ghana / Africa / Modernghana.com