China Watch: Coping With Domestic Economic Problems

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SUMMARY: China’s economy is facing a series of short- and long-term challenges, prompting Chinese leaders to focus internally.  The domestic economic problems will constrain China’s ability to confront the West economically and may incentivize Beijing to stabilize relations with the US and its allies.

China’s post-COVID economic recovery is losing steam, compounded by weak demand, local government indebtedness, and high youth unemployment.  In April and May 2023, industrial production, property sales, and credit growth have all fallen below analysts’ expectations, and manufacturing activity contracted, according to official Chinese data.  Recovery of China’s real estate market remains uneven; property and related industries account for about 25 percent of China’s GDP.  On 2 June, Premier Li Qiang stated that “the foundation of China’s economic recovery remains unstable,” and he urged officials to prioritize economic development.    

  • China’s debt-to-GDP ratio rose to a record high of 279.7 percent in the first quarter of 2023, according to official data.  Local government debt is of particular concern because much of it is “off the books,” with no official figures showing the seriousness of the problem.  Analysts estimate that local hidden debt could be as high as $9.9 trillion, roughly 55 percent of China’s GDP in 2022.
  • Local government debt increased rapidly during the pandemic to pay for mass testing and COVID lockdowns, and declining property prices damaged finances because local governments depend heavily on land sales for revenue.  According to Chinese media, several cities have had difficulties making debt payments and some have reduced essential services such as transportation and even health benefits, sparking sporadic protests.
  • Youth unemployment is at a record high.  As of April, 20.4 percent of people aged 16 to 24 who were in the urban workforce were unemployed.  Media reports suggest that the slowdown in the technology sector and college graduates’ reluctance to take blue-collar jobs contributed to the high youth unemployment rate.  Anecdotal information gleaned from social media suggests that the youth are losing faith in the Chinese government, but open dissent is rare because of heavy censorship and the surveillance state.
  • While Beijing has taken measures to stimulate the economy, its options are limited without exacerbating the debt problem.  PRC economic officials have hinted that the central government will not bail out local governments and real estate developers, suggesting that China’s economic recovery will remain uneven for the rest of the year.

Furthermore, China faces long-term structural challenges that are likely to constrain its growth potential if left unaddressed.  China’s past rapid growth has been predicated on low-wage labor and high levels of investment backed by cheap credit, but debt problems, rising wages, low consumption, and an aging and shrinking population are putting pressure on Beijing to change the current developmental model.

  • In response, Xi Jinping has emphasized “high quality development” to focus on advanced technology and high-end industrial production, away from labor-intensive, low value-added manufacturing.  Xi’s preference for state-led initiatives, however, is likely to result in inefficiencies and a retreat of the private sector, which has been critical to China’s growth.
  • The international environment is also unfavorable.  China needs access to Western technology and investment to transform its economic model, but its unfair economic practices are driving the West to restrict access to advanced technology and decrease supply chain dependence on China.  The Biden administration is also working on new regulations to vet outbound investment in sensitive technologies such as semiconductors, artificial intelligence, and advanced computing.  

China’s focus on addressing internal challenges is likely to constrain its ability to challenge the West economically, as China remains reliant on foreign technology, investment, and markets.  China is attempting to improve economic relations with the US and Europe, giving the West some leverage to press China to improve market access and the business environment for foreign companies.

  • According to US media, US Secretary of State Antony Blinken plans to travel to China soon, in a sign that Beijing and Washington are working to stabilize relations.  Beijing is using the May 2023 visits to China by Tesla CEO Elon Musk and JPMorgan Chase CEO Jamie Dimon to demonstrate that China continues to welcome American investment.  Musk met with PRC Foreign Minister Qin Gang, and Dimon met with Shanghai Party Secretary and Politburo Member Chen Jining.   
  • Beijing has launched a diplomatic charm offensive to improve ties with European nations, particularly France and Germany.  Beijing views French President Emmanuel Macron’s high-profile visit to China in April as a success.  According to media sources, Premier Li Qiang is scheduled to visit Germany in late June, his first foreign trip since his promotion to premier in March 2023. 
  • Beijing has sought to divide the US and Europe regarding China policy, seeing Europe as more pragmatic.  A June 2023 report by the European Council on Foreign Relations, drawing on opinion polls, posited that European attitudes toward China are closer to Macron’s conciliatory approach than to European Commission President Ursula von der Leyen’s more cautious approach.