Risky aspects of the economic growth of China - Essay Example

?Risky aspects of the economic growth of China Introduction China’s economic meltdown is predicted by various economics researchers both within Chinaand across the world. The slow-down of China’s economy has begun. The problem of debt crisis in Wenzhou is being compared to the Bear Stearns’s collapse in March 2008 that served as a trailer for the even bigger financial collapse that happened in the following September (Hays). The corporate debt in China has increased from 108 per cent to 122 per cent in the one year from 2011 to 2012, and has achieved its highest level in the last 15 years (Roberts). As a result of this, China has become the most debt-laden country in the world. Andrew Batson, the GK Dragonomics Research Director comments on the effect of debt crisis on companies operating in China in these words, “Companies have seen their business slowing down and revenues were not what they had expected. They have bridged the gap by taking on more debt” (Batson cited in Roberts). A researcher from the State Council’s National Development and Research Center, Li Zuojun made a speech on 17 September 2011. This speech made at the Changsha Alumni Organization of Huazhong University of Science and Technology’s internal meeting spread virally over the Internet. A post over the largest social media website of China Weibo got forwarded over 9000 times (Zitan). Mainland media portals like Sina and Sohu also widely reported this information. Li Zuojun noted that banks, local governments, and small and medium-sized companies in China are undergoing bankruptcies that serve as the signs of economic crisis nationwide. In his speech, Li presented four reasons for predicting China as the next stop for financial crisis. Those reasons are economic, hot money, political, and cycles (Zitan). Risky aspects of the economic growth of China Economic The two main causes of the possibility of occurrence of financial crisis in China are the worsening local debt crises and the bursting bubble of real estate. According to Li, the overall economic downturn in China has exposed the small and medium sized companies to financial challenges that have played an important role in reducing the commercial and industrial tax revenues. Local governments in China have suffered from the reduction of revenues because of the depression in the industry of real estate. Local governments in China have immense are bearing the pressure of spending more over a whole range of items that include but are not limited to local infrastructure, national defense, social insurance policies, construction of houses, maintaining social stability, and improvement of the hydraulic structures. However, as the local debts are maturing, local governments are facing even more pressure and are being forced into bankruptcy. In the long run, this would cause the banks to declare bankruptcy and eventually, Chinese citizens would have to bear the burden of the debt. Therefore, Li foresees a full-blown economic crisis. Hot money Although China’s economy is slowing down, the US is undergoing an economic recovery at the same time. This is contributing to the flow of large sums of the international hot money out of China. As a result of this, economic implosion is taking place in China. Political New leaders in China have risen as a result of the leadership transition of the year 2013. The priorities of most of the new leaders are not addressing economic woes of China. It takes anywhere between three and five months for a new leader to expose the past problems after taking charge. Li estimated the mid of the year 2013 to be the most probable recognition of the economic collapse of China. “Following the economic bubble bursting, there will be a subsequent period of suffering. But for the new leaders, this is nothing bad, since they are not to blame for the suffering…With the economic bubble bursting, the new leadership can adopt practical approaches. … New political achievements will be gained more easily, since the starting point is comparatively low” (Li cited in Zitan). Cycles The short-, mid-, and long-term cycles’ valleys converge in the year 2013. The span of short-term cycle is three to five years. Presently, this cycle is exhibiting a downward move and in the next two years, is likely to reach its bottom. “The crisis [in China] has long been taking place from the western perspective…It is only that it has been successfully covered up by the current systems, and the report in April showing an upswing of real estate transactions has made the rather severe economic situation look more favorable” (Dong cited in Zitan). Overspending of the government This may partly be attributed to the fact that China presently, is the second largest economy whose leaders have not been spending money very prudently for the last few decades. The overspending of the government has caused Japanification of its economy. While Japanification of the economy is not a terrible thing to happen given Japan is one of the technologically advanced countries in the world and is home to many big brands in the world, yet China neither has this edge nor is China’s society middle class and stable in general unlike Japan. “And while comparing China to Japan is like comparing Brazilian soccer players to Argentinians, the debt of the Chinese government and its state-owned banks is growing and that points to a slowdown in the China growth story” (“Is China Next”). Although a full blow debt crisis in China is not very likely to happen, yet China assumes risk, as warned in a 31 page report by Barlays Capital (“Is China Next”). Factors supporting low profitability of fiscal stress in China Numerous factors support low profitability of China’s fiscal stress; Firstly, the government of China has maintained a healthy balance sheet in spite of the high level of total liabilities that amount from $26 trillion to $46 trillion yuan (“Is China Next”). According to the data compiled by the latest available Ministry of Finance in the year 2009, the total amount of assets of the enterprises owned by the state is $53.3 trillion, of which $25.5 trillion are of the local governments in China whereas the rest are owned by the central government of China (“Is China Next”). This means that the assets of the central government are still enough to cater for any liabilities. Secondly, the government of China is in a strong fiscal position because of the rapid growth of revenue from the fees and taxes as well as the careful fiscal management by Beijing. In the year 2011, the fiscal revenue increased by 25 per cent and became $10.4 trillion. Many of the companies in China that are heavily indebted are owned by state. Banks that have lent them funds are controlled by the state as well. This places the load on the shoulders of the government in case a company cannot manage its debt. A giant state corporation’s sudden bankruptcy has financial and political consequences. “After another false start, small-business confidence has sputtered and stalled again. For the sector that produces half the private GDP and employs half the private sector workforce-the fact that they are not growing, not hiring, not borrowing and not expanding like they should be, is evidence enough that uncertainty is slowing the economy” (Dunkelberg cited in Short). Strategies for the survival of small companies in China There are many factors that cause the business debt crisis. In many cases, small companies in China have been caught up in the debt crisis because of lack of sufficient capital to cover the operating costs in the initial unprofitable years. Many businesses that are otherwise profitable can be caught into a debt crisis because of an economic downturn. In some cases, the small companies in China only have a product or service with a weak competitive advantage or a poor business model. Another factor that saps the small companies’ ability to survive in the debt crisis is lack of good management skills of the companies’ leaders. “After years of easy loans and cheap labor, small-business owners in this prosperous coastal city of 9 million say they are facing strong headwinds: slowing export growth, rising worker costs and a drought of loans for anyone but the biggest businesses” (Carlson). Solutions to these problems depend upon the factors that cause them. Sometimes, lenders need new management before they can accept the lower payments. In cases of recession, the small companies need to scale back, improve the service they provide to the customers, and cut down the costs. Often, a turnaround consultant can be hired to identify better products or business models (Amadeo). The Ministry of Industry and Information Technology’s official, Di Na identifies the transactional cost of lending money to a small company in China being too high as a major difficulty faced by the large Chinese banks in lending (Feng). However, the Ministry of Industry and Information Technology has taken certain steps to solve this problem and a solution has been reached (Feng). The solution for the challenges faced by the small companies in China is in achieving cooperation from the larger policy banks, that do not have sufficient outlets to support the lending for small business despite having funds. Currently, this proposal is being tested by the Ministry by working over the scheme with the State Development Bank. This model is a combination of the guarantee system and a platform of government management. A loan granting operation and a local based assessment of loan addresses the industrial problems directly. This is not a unique system as it has been tried by many countries before to address the problems of small and medium sized lending as well as the micro-business lending similarly. India is an example of such countries that have successfully implemented this strategy. “Even though we cannot avoid a debt crisis, we should at least learn some valuable lessons from past ones. In future, local governments should step up efforts to absorb existing debts while refraining from taking on more liabilities. Urbanization would help” (Qingyou). The former Chinese minister Xiang Huaicheng says that the debt issue in China is not very serious so far, though the government of China should take the problems seriously before they become too big to affect the economy of China (Jie). The government of China has already taken certain initiatives to relieve the financial pressure and resolve the issues for the small private companies operating in China. For example, “The local business community said the Wenzhou debt crisis is an extreme case of small- and mid-sized private companies (SMEs) struggling to survive the liquidity crunch resulting from the country's current macroeconomic control policies, which have been designed to cool inflation and rein in the runaway property market” (“China ensures bank”). The authorities in the province of east Zhejiang sent 11 work groups for administering the private firms’ bank bailout that were in the liquidity crunch. This was done in an attempt to alleviate the Wenzjou debt crisis. In Wenzhou City, 25 banks pledged to increase the lending for the private companies so that they can be bolstered and the debt crisis can be weathered (“China ensures bank”). Banks in China are being encouraged to lend the small companies more money and tolerate the higher debt levels. Banks are also being encouraged to crackdown over the market of high-interest informal lending. In addition to that, in order to keep the economy of China growing, a half-trillion-dollar stimulus was launched by the officials and banks were ordered to fund the investment’s new wave. As a result of these efforts, investment has increased as the gross domestic product’s share to 48 per cent from 43 per cent, that is a record for a large country (Sharma). A crisis in the banking system of China that was widely anticipated was delayed partly because of the ability of the government of China to transfer the bad loans of the borrowers of the local government to other entities like the policy banks controlled by the state (Dai). With the coordination of the government, many banks have enlarged the lending ratios for the small and medium sized entrepreneurs. Owners of the small companies in China are hopeful that they would get back on track with the strong support of the government to get them help with the loans from the bank and the security of their assets (“China helps private”). It is, indeed, the right time for the small companies in China to consider planning to expand their businesses overseas. Companies that have a significant presence in Europe already should consider hedging against the fluctuations in currency. Small companies in China need to keep an eye on Europe without any panic. They do not need to completely uproot their supply chain from China, though they need to examine their businesses in order to develop a fair understanding of their suppliers and customers. Eventually, the level of economic recession in the US as well as in China would be determined by the extent to which the officials in Europe are effective in delivering on their promises (“How will the”). Conclusion Concluding, the rising debt crisis in China has raised many challenges for all kinds of businesses in general and the small companies in particular. Ever since the occurrence of the debt crisis in Europe and the recent global financial crisis that affected the economy of most of the countries around the world in general and the US and the UAE in particular, financial pundits and investors have been considering China as the next center of financial crisis. The economic system of China is closed in that the debt stays in public’s hands. The country does not face any real threat from the foreign entities. This makes the case of China different from a vast majority of other countries e.g. Spain and Greece in which debt is sold out by the foreign investors, thus reducing the affordability of the interest payments and making large spikes in the yields. A major reason why double digits would not grow in China is because of the awareness of Beijing that it needs to limit the plans of fixed asset investment since most of them have not been very profitable. Since most of the investment has not been quite wasteful, China is more likely to experience economic stagnation than a debt crunch that happened in Europe. Whether or not China can really successfully deal with the challenges and problems associated with lending to the small businesses and develop a corruption free and reliable business model that is helpful will only be found with the passage of time. However, the likelihood of getting good support from the government is quite high with the desires of increased urbanization and economic growth of the country. The government of China is taking steps to encourage the banks to increase the lending for the small and medium sized entrepreneurs. This flexibility on the part of the banks is a big step forward in alleviating the economic pressure and challenges for the small companies in China. Works Cited: Amadeo, Kimberly. “Debt Crisis: Explanation, Causes and Cures for Household, Business and Sovereign Debt Crises.” 10 Mar. 2013. . Carlson, Benjamin. “In China, small business no longer booming.” 6 Aug. 2012. Web. 12 April 2013. . “China ensures bank loans to help private sector tackle Wenzhou debt crisis.” 11 Oct. 2011. Web. 12 April 2013. . “China helps private sector tackle debt crisis.” 11 Oct. 2011. Web. 12 April 2013. . Hays, Jeffrey. “Chinese Regional Economics.” April 2012. Web. 12 April 2013. . Dai, Shasha. “Shoreline Capital’s Fanger On China’s Coming Debt Crisis.” The Wall Street Journal. 29 Feb. 2012. Web. 12 April 2013. . Feng, Jiang Yun. “Government to promote bank cooperation in small and medium business financing.” Gbtimes. 4 April 2013. Web. 11 April 2013. . “How will the European debt crisis affect your small business.” n.d. Web. 12 April 2013. . “Is China Next To Suffer A Debt Crisis?” 28 Jan. 2013. Web. 11 April 2013. . Jie, Gong. “China may be next in debt crisis.” 7 April 2013. Web. 12 April 2013. . Qingyou, Guan. “What Three Waves of Debt Crisis Have Taught China.” 18 Mar. 2013. Web. 11 April 2013. . Roberts, Dexter. “Corporate China's Black Hole of Debt.” Bloomberg Businessweek. 15 Nov. 2012. Web. 11 April 2013. . Sharma, Ruchir. “China Has Its Own Debt Bomb.” The Wall Street Journal. 25 Feb. 2013. Web. 12 April 2013. . Short, Doug. “Small Business Sentiment: Contraction after Three Months of Slow Growth.” 9 April 2013. Web. 11 April 2013. . Zitan, Gao. “China Faces Economic Meltdown in 2013, Says State Researcher.” The Epoch Times. 7 Sep. 2012. Web. 11 April 2013. . Read More