Managing Essentials

International The Chinese economy is cooling down

By December 2011 some industrial indicators pointed to the inescapable fact that Chinas economy is cooling down. Warehouse inventories reached a peak and steel production was lower. Compared to other economies like Japan (-0.5%) the United Kingdom (1.1%) or the USA (1.5%) Chinas growth is still impressive, but lags behind the previous years two digit advancement. Recent analyses expect about 8 % growth for 2012 after 9.5% in 2011. This has become a much talked about issue as many sectors worldwide are affected by the dip. Stories about the personal side of greed and corruption also made it into the worldwide headlines. Chinas economic importance in nearly all areas of trade and services is evident; it is not only the biggest importer of basic commodities from building materials like steel to food staples like wheat, but also consumer brands, for example car producers like Mercedes and coffee houses like Starbucks who have flocked to the expanding Chinese market generate a major part of their revenues there. Consequently, when its domestic growth seems to slow down the effects are felt by many manufacturers and service providers. At the end of February 2012 the World Bank issued a futuristic report titled China 2030: Building a Modern, Harmonious, and Creative High-Income Society in which the major challenges for the next 2 decades are pointed out. The World Bank sees a need to complete the transformation to a market economy and to accelerate the pace of open innovation. In addition, evident environmental, social and fiscal problems must be tackled. The report speculates about the distant future, but three current obvious problems added to the news of the economic slowdown. The first is the high inflation, the price to be paid for the growth. Strong growth always accompanies inflation, but the current rate of over 6% is high. There is also the cycle between growth and inflation which might become a vicious cycle; growth is needed to cope with inflation for the average citizen, but also growth will fuel inflation as it has done before. To navigate between these obstacles at a time when private income on average is not rising at the same rate of inflation is a tedious task for Chinas central bank. A second problem is the illicit private finance market that has emerged. Chinas state owned banks do not lend money to finance new enterprises, so many small companies and entrepreneurs have turned to private financing. Private lending has become a huge market and since it is also illegal, exact numbers are unknown. Estimates reported by Julie Ball of the BBC reached 3.7 trillion yuan (US$ 587 billion). The practice of private lending was initially tolerated as long as private lending rates did not exceed the official ones. However, private interest rates are now several times higher at 3 - 6% per month with the official rate at the low rate of 0.6%.

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Recently, a much publicized and debated trial drew attention to the practice and its risks for the persons involved. A former hairdresser who became one of Chinas richest private bankers, faces the death penalty for financial fraud. The supreme court ordered a retrial, but the outcome is still open. Finally, a leading official of Chinas ruling party was arrested and charged with the crime of corruption. It remains to be seen how the case against Bo Xilai, a member of the Politburo and former head of the communist party in Chongqing, will develop. Some observers just see the criminal case as a byline of a political power struggle; however, if convicted he would be the highest ranking of an increasing number of leading officials sentenced to long prison sentences or even the death sentence for corruption. Tania Branigan summarizes in The Guardian that these spectacular cases are just the tip of the iceberg with almost 140,000 disciplinary cases being handled by the Party in 2010 with more than 145,000 people being punished. These problems show that there is still a lot of the Wild East in China with regard to business development and its frameworks. However, this is not surprising for a country of its size and population. Years ago, in the USA, people on the East coast told stories of the Wild West which they said did not have law and order as in the East, but as a consequence a lot of opportunities were open to people. What makes the case of China remarkable is the impression it gives to the casual observer of being centralist and monolithic. This impression is not only created by its political leadership but extends to its role as an economic agent. This picture also supports the perception the world has of Chinas people and their living conditions. However it should not be forgotten that China is a diverse country with a huge market. The living and working conditions for most of its citizens are still basic. Many who nowadays can buy a refrigerator, TV or car are often the first ever in their families to do so. These conditions were widely discussed with regard to Chinas role as the workbench for the trendy gadgets of the developed world. Foxconn, the Shenzen based factory city that manufactures products for Apple, became a focus for press coverage after a series of employees committed suicide. Workers are earning US$ 360 to US$ 460 for a 50 hour week. The auditors of the United States based American Fair Labor Association carried out a survey of 35,000 employees and reported that working conditions need significant improvement. Foxconn announced it would comply with Chinese labor legislation by the middle of next year and Apple also promised to revamp and improve working conditions. Nevertheless, Foxconn is a much sought after employer in China with long lines of job applicants at its doors. In the big Wall Street crash of 1929 the quote When America sneezes Europe catches a cold came up. As the crisis of 2000 (the dotcom bust) and 2008 (Lehmans default)

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demonstrate, this is also true today but spreads to the whole world. China, with its significant cash reserves does not sneeze, but lives with the fever of rapid economic expansion. High inflation, corruption and questionable loans are symptoms of overheating. It is favorable for all economic agents to stabilize the growth on a lower but overall more healthy level.
China 2030: Building a Modern, Harmonious, and Creative High-Income Society (Worldbank) www.managing-essentials.com/2dz China set to reform illicit private finance market (Julie Ball) www.managing-essentials.com/2d1 Bo Xilai case shines light on corruption in China (Tania Branigan) www.managing-essentials.com/2d2 UPDATE 2-Apple, Foxconn revamp China work conditions www.managing-essentials.com/2d3