China’s Slowing, but the Sky Isn’t Falling

For practically any other country, economic growth of 7% would be a cause for throngs of people partying in the streets singing “Happy Days Are Here Again,” but for China it’s cause for a global bummer. You’d have to go back to 1983 to find U.S. GDP growth that high, and that was an extraordinary circumstance. In China, double-digit GDP growth has been common for decades. It topped 10% as recently as 2010.

China’s tremendous growth, though a bit scary to some worried about Chinese world domination, has been a major driver of the global economy. The World Bank says China has been the single biggest contributor to global economic growth since 2001, and although still a developing country, it has the world’s second-largest economy.

So when figures came out this week that showed China’s growth in this year’s first quarter slowed to the lowest level in six years—7% annualized, down 0.3 percentage points from 2014’s fourth quarter—the headlines and talking heads started some Henny Penny pandering. For instance, The Independent, the British national morning newspaper, had a front-page story about “how China’s slowing GDP growth could drag down the global economy.”

At times like these it’s good to remember the advice from another storied U.K. publication, the “Hitchhiker’s Guide to the Galaxy.” And that advice is: Don’t Panic.

Not Unexpected

For one thing, not only has the slowdown been anticipated, it’s pretty much coming right on time. The Chinese said they wanted to shift from a manufacturing-and-export-based economy to one more domestically focused, and this slowdown is one consequence.

Martin Hutchinson, an international merchant banker for many years and a contributor to our Personal Finance and Global Income Edge publications, says China’s tremendous growth has come from copying rich countries., And now that it’s grown richer itself, there’s less room for growth. It’s inevitable that China’s growth would “slow toward ours,” Martin says. As an example he points to Japan’s slowdown from 1970 onwards and especially since 1990.

Of course, China still has plenty of room left to grow—half of its 1.3 billion population still lives in relatively depressed rural regions. Hutchinson says that China isn’t even at the living standards Japan had in 1970.

In fact, the same kind of extrapolation thinking in the 1980s had Japan dominating the world. Only now that thinking has been transferred to China. Yes, China will become the world’s largest economy in a few years, according to the World Bank, but some inexorable issues will limit its growth.

In a recent story The Economist pointed out that China faces a demographic time bomb. By limiting its population growth China has set itself up for a mass of retirees and a relatively small workforce to support them. Wrote The Economist: “Unlike the rest of the developed world, China will grow old before it gets rich. Currently, 8.2% of China’s total population is over 65. The equivalent figure in America is 13%. By 2050, China’s share will be 26%, higher than in America.”

Put in Perspective

This is not to say China’s slowdown won’t have a real impact on the world’s economy. It will affect developing countries quite a bit, but developed countries less so. The strengthening dollar will do more to limit U.S. GDP growth than China’s slowdown.

Many developing countries (and some developed ones, especially Australia) derive a big chunk of wealth from exporting raw materials to China. So a slowdown in China’s construction and manufacturing sectors will hurt them especially. The World Bank estimates that for every 1 percentage point China’s GDP drops, almost 0.6 percentage points are shaved off emerging markets’ GDP. On the other hand, that same drop in China’s GDP affects the developed world only about 0.2 percentage points.

But what about a China crash? Those Western economic principles the Chinese adopted could have planted the seed for a real estate bubble of their own. Not to worry, says Hutchinson, China has so much money it can easily recapitalize its banks. And those cheap Chinese goods won’t disappear from U.S. retailers either, he adds. “The Asian supply chains won’t collapse.”

In any case, many economists predict the Chinese economy will rebound in the second half of this year. Its appetite for raw materials may never be the same, but as the Chinese middle class grows, it should want more products and technologies the West sells. So net-net, China’s change from an export-driven economy to one that’s more consumer-driven is good for us.

There will be bumps along the way—such as this last quarter—but long-term, the sky won’t fall when China stumbles.