“If you build it, they will come.”
That seems to be an appropriate description of China’s economic growth model. Just one look at Shanghai’s waterfront or their high-speed train system is enough to leave visitors believing China’s infrastructure can rival anything in the world.
In Part Two of this series on China, I’ll look at the massive build out within China and see if this fixed investment boom is sustainable. If the building boom ends, it could cause a worldwide economic slowdown. (Click
Fixed Investment Versus Consumption Spending
A significant amount of China’s growth over the past 20 years has come from what’s called “fixed investment” as opposed to consumption spending. Fixed investment includes tangible things like roads, bridges, trains, buildings and machinery. It accounted for 46 percent of China’s GDP in 2010, according to the Financial Times.
The June 30 launch of the Beijing to Shanghai high-speed train is a good example of fixed investment. It cost $33 billion to build, reaches a top speed of about 200 mph and connects the two major cities in less than five hours, according to The Vancouver Sun.
Fixed investment is good from the standpoint that it equips a country with the tools and resources needed to grow and be productive. However, too much fixed investment can lead to overcapacity and strained budgets.
As I traveled across China in June, I was amazed at the world-class quality of some of its infrastructure. The airports, the high-speed trains, the skyscrapers, the Olympic Village; they were very impressive. However, I was also struck by how empty these buildings were. At the airports, it appeared you could have doubled the number of passengers and still handled it -- try doing that at O’Hare International Airport in Chicago.
Clearly, China has built its infrastructure with future growth in mind. The big question is, have they built too much too quickly?
The Chinese philosopher Confucius said, “Do not be desirous to have things done quickly. Desire to have things done quickly prevents their being done thoroughly.” The Chinese government learned that the hard way as a recent high-speed train crash in eastern China killed several dozen people and cast a pall on China’s breakneck pace of infrastructure growth.
The Wall Street Journal commented that the train crash, “has transformed a symbol of Beijing's pride into an emblem of incompetence and imperious governance.”
Ouch!
Recurring problems on the new Beijing to Shanghai high-speed rail system have exposed additional vulnerabilities in China’s management of infrastructure projects and further soured the populace on governmental corruption and secrecy.
Making the Switch
Knowing the risks of an investment-led economy, the Chinese government has developed a plan to rebalance its economy from investment and manufacturing towards consumer consumption and services, according to the Financial Times.
Ironically, this would put China more in line with the U.S., where consumer spending accounts for about 70% of economic activity, according to The Wall Street Journal. In China, the comparable private consumption number is 34%, according to the Financial Times.
One of the knocks on China is that the growth in fixed investment has risen faster than GDP and this could cause problems with too much capacity and too much debt to fund those investments.
Leading up to the 2008 Summer Olympics in Beijing, China spent furiously on infrastructure in an effort to present the country in a positive light to the rest of the world. Those investments, coupled with a $586 billion stimulus package launched in late 2008 to fend off the economic crisis have fueled concerns that some of China’s investments will turn out to be “bridges to nowhere” and end up as bad debts.
China’s leadership is beginning to understand that, “If you build it, they will come” has its limits.
Now, moving from an investment-led to a consumer-led economy is no easy task in a sprawling country of 1.3 billion people.
There is a huge gap between the “Haves” and the “Have-Nots” that could cause social problems if conspicuous consumption becomes popular. There’s the potential for inflation to get out of control if Chinese consumers start demanding higher wages and start spending more rapidly than the economy can churn out goods and services. And there’s a demographic issue working against the economy as the country is rapidly aging due to the long-standing one child policy.
Should China falter in its effort to rebalance its economy, it could lead to domestic problems that ripple out to the rest of the world.
In Part Three, I’ll wrap up with a discussion of three issues facing China that are an outgrowth of their strong economy -- inflation, social and economic inequality and a growing pile of foreign exchange reserves.
There’s an old saying that when the U.S. sneezes, the rest of the world catches a cold. Given China’s strong historical growth, massive size and potential issues facing its economy and government, advisors should be concerned about China sneezing, too. How they manage the rebalancing of their economy over the next few years is one issue that bears close attention.
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Steve Sanduski, CFP®, is the Managing Partner of
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