x Abu Dhabi, UAETuesday 23 January 2018

As China's growth slows, the world will feel the pinch

China acknowledges that it must recalibrate its engine of economic growth, and the likely slowdown will affect the countries that borrow its money and supply its oil.

The Chinese premier Wen Jiabao is not a man given to revolutionary rhetoric. He normally speaks in the dry, careful language characteristic of Beijing's leaders. But six words he uttered last week could have revolutionary consequences for China, the world, and the Middle East.

Did he comment on Libya's civil war? On rising oil prices? On Middle East unrest? None of the above. In fact, he simply made a matter-of-fact declaration about China's future economic intentions. Here were the six words: "We will actively boost consumer demand."

Why are those seemingly mundane words so "revolutionary"?Mr Wen was articulating an emerging consensus among senior policy-makers in China that their current growth model - driven by low-cost manufacturing, easy credit from state banks and massive export receipts - is no longer sustainable. What is needed instead is a growth model driven by internal consumption, rather than external trade. In short, the Chinese need to spend more money at home, and be less reliant on their low-cost export machine.

China's dizzying growth story - an average of 10 per cent annually for 30 years - has largely been driven by that same low-cost exports machine that Mr Wen and a host of other Chinese leaders now feel is an unsustainable model. This move towards more demand-driven growth is "good economics", according to Professor David Beim at the Columbia Business School, who calls it a sound strategy for China to pursue. But, "there is a catch",Prof Beim said at a recent seminar on China's economy in New York. "Moving from the old model to a new one will slow China's growth," he said. "It seems hard to imagine otherwise."

China's stunning pace over the past three decades has transformed the world. It has reordered Asian power structures, spurred growth in commodity-rich emerging markets, linked the Middle East with East Asia in dramatic fashion, and created a new economic and political colossus to challenge the United States. Not to mention that it has lifted some 300 million Chinese out of poverty.

A modestly growing China, rather than a rapidly growing one, would have consequences for the global economy, with ripple effects in countries that would be hard to predict. It is often said that when America sneezes, the world catches a cold. It is now justifiable to wonder what might happen if China sneezes? How will a modestly growing Chinese economy affect Africa, the destination of a lot of Chinese investment? Or the Middle East? China trades more with the region than any single country in the world and receives more Middle East oil than the United States.And what about the US, beholden to Beijing's purchase of US Treasury bonds to finance its deficit?

The answers to these questions might be just as transformative as the rise of China has been over the past three decades. In order to ramp up the level of internal consumption in China, Prof Beim argued in arecent paper, "the entire development philosophy would need to shift away from producers and toward consumers with businesses raising wages, banks raising deposit rates and increasing consumer loans, and government offering expanded health care and education services".

Prof Beim points out, however, that "the benefits of wealthier consumers buying more may take years to evolve. The old model must be disadvantaged well before the new model can take hold".He concludes:"It seems more than likely that the Golden Age of Chinese supergrowth is nearing an end."

Middle East oil producers should take note. Their most important customer could be headed down a path of more modest growth. China increasingly relies on the Middle East for the oil that lubricates its growth; the corollary is that regional oil producers also rely on China for the certainty of its rising demand. As Saudi Aramco's chief executive, Khalid alFalih, said last year, the certainty of Chinese demand allows national oil companies to make the expensive investments in capacity expansion necessary for a world with smaller margins of spare capacity.

The nightmare scenario for oil producers and emerging markets would be a Japan-style Chinese deceleration. Where once Japan seemed destined to take over the world, the Asian economic powerhouse has entered its second "lost decade" of near-zero growth. While there are no indications that the nightmare scenario would come to pass, even a growth rate of 5 per cent could re-order the world's oil supply and demand equations.

Chinese policy-makers must feel like the proverbial man riding a wild tiger. It's a thrilling ride, but it's dangerous to step down. The tiger cannot continually charge forward at this pace. It has transformed the world, yes, but it has also created unsustainable global economic imbalances (chiefly Chinese surpluses and US deficits), fed resentment among tens of millions of ordinary Chinese who have yet to reap benefits and have launched their own versions of "days of rage" over the last year, and crowded out local manufacturers in countries around the world.

In 1979, when the former Chinese premier Deng Xiaoping took the then-revolutionary step of gingerly opening to a market economy, the process launched China's hurtling growth story.That step - not the disastrous communist project in the late 1950s - might be called China's true "Great Leap Forward". How China manages the next step in its journey might be just as transformative and will have ripple effects far beyond its borders.


Afshin Molavi is a senior fellow and co-director of the World Economy Roundtable at the New America Foundation