IMF warns of growing threats to China economy
(MoneyWatch) The International Monetary Fund today warned China that it must quickly enact critical reforms if it is to avoid further economic problems. The success or failure of these efforts will likely have a large impact on the U.S. economy.
In a report issued today, the IMF said there is an increasing risk that China's growth will fall short of the agency's 7.75 percent growth estimate. The Washington-based fund said the danger of a rapid slowdown grew following reports last month that the nation's manufacturing output was shrinking. Beijing announced that economic expansion slowed to 7.5 percent in the second quarter on Monday, too late to be included in the IMF report.
According to the IMF, China is increasingly at risk from nontraditional sources of credit -- the so-called shadow banking system -- which is being used to fund a real estate bubble and excessive borrowing by local governments.
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"Since the global crisis, a mix of investment, credit and fiscal stimulus has underpinned activity," the report says. "This pattern of growth is not sustainable and is raising vulnerabilities. While China still has significant buffers to weather shocks, the margins of safety are diminishing."
While Beijing's huge reserves of foreign currency would let it protect the entire economic system from any sudden shifts, these might spur discontent among a population already unhappy about government corruption, debilitating levels of pollution and a widening wealth gap.
For decades the nation has relied on cheap currency and labor, as well as a huge amount of government spending on infrastructure, to fuel its phenomenal economic growth. Premier Li Keqiang has acknowledged this is unsustainable and has taken steps to move China to an economy fueled by demand from its own consumers. Domestic consumer demand currently accounts for about 30 percent of the nation's gross domestic product. In the U.S. that number is around 70 percent.
China's domestic consumption rate is close to the same as it was last year, but spending on physical assets like roads, airports and commercial buildings has increased as a share of the economy. This increase has come even though there is little demand for any of these items.
Local borrowing has paid for much of the new infrastructure despite the fact that a huge number of regional and municipal governments do not have the tax base to support that borrowing. "Further rapid growth of debts would raise the risk of a disorderly adjustment in local government spending," the IMF warns. Earlier this month Xinhua, the official government news agency, reported that Ordos -- a city famous for its empty skyscrapers and housing developments -- has had to borrow money from private companies to make its payroll.
If China fails to manage the transformation to a consumer-based economy, it would cause huge problems for an already-shrinking world economy and have a significant impact on the U.S. However, if there is more consumer demand from China, then U.S. companies would benefit from the creation of giant middle-class seeking American goods and services.
