China’s economic growth is slowing down as policymakers try to fix a property market downturn, with troubles at major developer Country Garden in focus. Concerns are mounting over whether the world’s second-largest economy is coming closer to a crunch point:

What is causing China’s economic slowdown?

Unlike consumers in the West, Chinese people were left largely to fend for themselves during the COVID-19 pandemic and the revenge spending spree that some economists expected after China reopened never took place.

Moreover, demand for Chinese exports has been softening as key trading partners have been grappling with rising living costs.

And with 70% of Chinese household wealth tied up in real estate, a big slowdown in the sector is trickling through to other parts of the economy.

There have been major concerns over China’s economy before. Is this time different?

Alarm bells over the economy rang during the global financial crisis in 2008-09 and during a capital outflow scare in 2015. China revived confidence then with a shock boost to infrastructure investment and by encouraging property market speculation, among other measures.

But the infrastructure upgrades have created too much debt, and the property bubble has burst, posing risks to financial stability today.

Given China’s debt-fueled investment in infrastructure and property has peaked and exports are slowing in line with the global economy, China only has one other source of demand to tinker with: household consumption.

In that sense, this slowdown is different.

Whether China bounces back largely depends on whether it can convince households to spend more and save less, and whether they will do so to such an extent that consumer demand compensates for weaknesses elsewhere in the economy.

Why is low household spending a problem?

Household consumption, as a percentage of gross domestic product (GDP), was among the lowest in the world even before COVID, with economists identifying it as a key structural imbalance in an economy relying too heavily on debt-fueled investment.

Economists blame weak domestic demand for subdued investment appetite in the private sector and for China sliding into deflation in July. If it persists, deflation could exacerbate the economic slowdown and deepen debt problems.

The imbalance between consumption and investment is deeper than Japan’s before it entered its “lost decade” of stagnation in the 1990s.

Will China’s economic slowdown get worse?

Weak data readings have prompted some economists to flag the risk that China may struggle to meet its economic growth target of about 5% for 2023 without more government spending.

About 5% is still a much higher growth rate than many other major economies will achieve, but for one that invests roughly 40% of its GDP every year – about twice as much as the United States – economists say it remains a disappointing figure.

There is also uncertainty about the government’s appetite for large fiscal stimulus, given high levels of municipal debt.

Stress in the property market, which accounts for about a quarter of economic activity, raises further concern about the ability of policymakers to arrest the slide in growth.

Some economists warn that investors will have to get used to much lower growth. A minority of them even raise the prospect of Japan-like stagnation.

But other economists say many consumers and small businesses may already feel economic pain as deep as during a recession, given youth unemployment rates above 21% and deflationary pressures weighing on profit margins.

Will interest rate cuts help?

Major Chinese banks on Friday cut interest rates on a range of yuan deposits, to mitigate pressure on their profit margins and give themselves room to reduce lending costs for borrowers, including by lowering mortgage rates.

While policymakers hope lower rates would boost consumption, economists warn the deposit rate cuts accompanying them result in a transfer of funds from consumers who save to those that borrow. Transfers of resources from the government sector to households would make a more meaningful long-term impact.

Rate cuts may also create risks of yuan depreciation and capital outflows, which China will be keen to avoid.

China’s central bank said on Friday it will cut the amount of foreign exchange that financial institutions must hold as reserves for the first time this year, to counter pressure on the yuan.

What more can China’s government do?

Economists want to see measures that would boost the household consumption share of the GDP.

Options include government-funded consumer vouchers, significant tax cuts, encouraging faster wage growth, building a social safety net with higher pensions, unemployment benefits and better, and more widely available, public services.

No such steps were flagged at a recent Communist Party leadership meeting, but economists are looking to a key party conference in December for more profound structural reforms.

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