Is China Really on the Path to Recovery?

If you subscribe to Federal Reserve Chairman Ben Bernanke’s “green shoots of recovery” theory – or believe that the recent speculation and run-up in oil prices provides further evidence that the global economic crisis is easing – then you will be further encouraged by news that China’s manufacturing output has increased for three straight months now. As the world’s third largest economy, China is heavily dependent on the sales of its exports so an early recovery in China must mean that its global trading partners are also seeing an end to the crisis.

By way of evidence, China’s most recent Purchase Manager’s Index (PMI) for the month of May came in at 53.1 – down slightly from April’s 53.2 but any value over 50 indicates positive growth. Continued growth is critical for China’s future and the country’s policymakers have long targeted 8 percent annual growth as the minimum level of growth required to raise the standard of living for millions of China’s poor while still ensuring stable social conditions for the entire country.

In the past twenty years, China has worked to remake itself as a capitalist market – albeit one that still operates within the confines of a communist government. One phenomenon from this push towards freer markets, is the rise of an educated middle-class. Prior to this, unless part of the ruling class, options for most Chinese citizens were pretty-much limited to a life of working the land or toiling in a factory. In general, workers faced a meager lifestyle where most of one’s efforts went to pay for food and housing and luxuries like electronic goods and certainly a personal automobile were beyond the scope of the vast majority of most individuals.

But things began to change as China became an increasingly important center for the production of consumer goods ultimately destined for sale in the US and Europe. Originally consisting of cheap, mass-produced items and simple electronics, China’s exports have grown in sophistication and this has forced China to improve education and training opportunities for its people. Better pay resulting in additional discretionary income has given rise to a more discerning consumer and many of the goods and products that earlier generations could only dream about are now commonplace.

Growth Mostly From Government Spending

Last November, China’s government committed 4 trillion yuan (US$568 billion) to stimulus spending. According to China’s National Development and Reform Commission, government money has resulted in the construction of over 12,000 miles of new roads, 200,000 new low-rental dwellings, and billions of dollars spent to improve airports and other public infrastructure projects.

Meanwhile, external demand for China’s exports remained stagnant with no indication that the traditional export markets will return to previous buying levels any time soon. Worse still, consumer spending in China is actually shrinking as money earned through government stimulus projects finds its way into personal savings accounts rather than the local economy. According to Stephen Roach – Chairman of Morgan Stanley Asia – the lack of a social safety net in China has forced workers to increase their contributions to what he refers to as “precautionary savings” over growing fears that the economy will get worse in China before it gets better. (China View – May 30th, 2009)

Like any jurisdiction resorting to direct stimulus spending to see its way through a difficult patch, China is discovering that once the spending ends, so does the positive growth associated with the spending. Actual recovery will not take place until global economies improve and demand for China’s exports rebounds. In the meantime, China’s government is faced with a difficult decision – continue throwing billions at the economy, or endure a sharp decline in growth.

About the Author

Scott Boyd has been working in and writing about the financial industry since the early 1990s. As a technical writer and project manager with several of Canada’s leading financial institutions, Scott has produced educational materials for investment system end-users including portfolio managers and traders. Scott now administers and contributes to OANDA FXPedia and regularly provides commentaries for the OANDA FXTrade website.

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