After five years of double-digit expansion, the world's fastest-growing economy has succumbed to the economic chill wind sweeping across the globe. China's economy slowed to an annual growth clip of 9 per cent in the third quarter from 10.1 per cent in the previous quarter well below the consensus forecast of 9.7 per cent.
With the credit crisis buffeting global economic growth, China's industrial production and construction declined due to weaker export orders, factory closures for the Beijing Olympics and the sagging property market. However, retail sales growth remained strong, while inflation eased amid falling commodity prices.
Nevertheless, Dominic Barton, Asia Pacific chairman of consultancy firm McKinsey & Company, is very bullish about where China is going to be over the next two to three years.
Speaking at the World Knowledge Forum in Seoul, Barton says that while consensus economic forecasts point to a likely two-percentage point drop in China's economic growth in 2009, its underlying growth drivers remain formidable due to its large consumer base, significant infrastructure expenditure and the Chinese government's strong fiscal position.
For its part, the government, which has currency reserves of US$1.9 trillion, has announced a raft of measures to address the darkening economic outlook. The government will increase infrastructure spending, raise export tax rebates, reduce property transaction fees, encourage banks to lend more money to small- and medium-sized companies, and introduce new programmes to support farmers. Furthermore, economists expect the central bank to cut interest rates for the third time this year.
We think growth will continue in China in almost every sector; there are some sectors where it will be zero, says Barton, adding that some sectors and companies are growing at a rate of 40-45 per cent.
For instance, steel manufacturers supplying construction companies in Shanghai, Shenzhen and Guangzhou are being hit hard by the property market slump, but companies in the software and pharmaceutical sectors are growing rapidly.
Notably, the International Monetary Fund estimates China's economic growth in 2009 at 9.3 per cent, compared with virtually zero growth in the US, euro area and Japan.
To be sure, the forecast growth rate of 9.3 per cent is still a very strong number, says Steven Xu, chief representative of the Economist Group in China, who adds that inflation in China is not a threat.
Xu, who was also speaking at the World Knowledge Forum in Seoul, cites three key cyclical reasons for his belief. Firstly, there are severe excess capacities in many of China's business sectors so businesses would have to lower prices in the domestic market at a time when China's exports to the US, which accounts for 21-23 per cent of China's goods and services, are slowing down.
Secondly, the Chinese currency, which is loosely pegged to the US dollar, has been rising in tandem with the greenback, which has been counter-intuitively boosted by the credit crisis. This is due to fears that the financial crisis in Europe is even worse than in the US. The strengthening of the renminbi against most currencies is therefore deflationary for China, Xu says.
Lastly, in terms of China's equity markets, the A-share market has fallen from its peak of 6,300 points to a recent low of 2,000 points. So the equity market has done certain things the central bank wanted to do but was not able to do as far as inflation-fighting, explains Xu.
In any case, China has accounted for a significant portion of global economic growth for many years. From this perspective, China's economic ascent in the past two decades is a re-rise, says Barton, who has lived in Korea and China in the last eight years.
Far from reaching a plateau, China's economy will continue to soar, as 350 million Chinese will migrate from the rural areas to the urban areas in the next twenty years. Consequently, China will reach a critical inflection point as an estimated 270 million people will enter the middle-class bracket (per capita GDP of US$5,000), which will drive an exponential growth in demand for goods and services.
This seismic macroeconomic shift is, in turn, fuelling a massive infrastructure boom: China is building 24 new airports by 2010; Beijing Airport's new third terminal, which has a floor space of 986,000 square meters, is alone larger than the combined size of London Heathrow Airport's five terminals. And according to Barton, China is building power generators with capacity thirty times that of New York City.
The power sector, just the energy it needs to fuel that growth ... you've got to have the water systems, the energy, the electricity, all of that to go with it,
We're talking roads, bridges, 50,000 skyscrapers, over 200 cities with a million people. That all has to be built, so you're going to see in many sectors over half the world's consumption of those products being there that's why commodities prices long term, I don't see the pressure coming off. They may not be as spiky high as they are now, but that demand will continue.
Attracted by China's explosive growth, foreign investment is still flooding in. We are seeing a very substantial increase in the number of European and North American companies that are saying: 'How are we getting our footprint right here? How do we participate in the growth?' Barton says.
Even so, foreign direct investment (FDI) has not been a major factor in China's growth, which has been driven more by its domestic investments and consumption, says Barton. Indeed, China does not need FDI because of its huge domestic savings (of individuals, corporations and the government). But FDI has nonetheless aided China's growth by bringing in advanced technological capabilities.
Chinese companies are also starting to come of age. These companies are getting the scale where they can actually buy other companies, says Barton. We're seeing M&A activity. We're seeing geographic expansion within China like we haven't seen before, and encouragement from the government.
By his reckoning, probably 70 or 80 firms are on deck and ready to go global for a myriad of reasons to access and compete in new markets, find new sources and enhance supply chains.
They've got the ambition, they kind of know where they want to go. The challenge is how do you do it because there are not a lot of role models in terms of how to do that. Probably more in India, than there are in China, but they are there. They are just getting to the scale now where they can do it.
But for all the hype over China's role as an emerging driver of the global economy, it bears remembering that while China's economy is larger than that of the UK, it is still smaller than the economies of the US, Japan and Germany. As such, China, by itself, would not be able to offset the global economic downturn caused by the US credit crisis.
It's difficult to expect that China's going to power us out. I think they can play a role definitely and I think they will, says Barton.
And I think they can play a role in Asia because they can help the Koreans, they can help the Japanese, they can help the Southeast Asians in terms of the growth as well, so I think they definitely can be helpful but I don't think we should look at them as the pillar that's going to pull us out. They're just not big enough yet.