The reports of China’s pending economic collapse have been greatly exaggerated. There are signs that the world’s second-largest economy is entering a period of long-term restructuring marked by a slowdown, but the process is neither unexpected nor chaotic. A sober look at China’s economic transition will allow us to assess its impact on the country’s political stability and on Beijing’s overall geostrategic calculus in the years ahead.
China’s growth slowed to 6.9 percent in 2015, and the 2016 forecast is in the 6-7 percent range. The slowdown is primarily the result of the country’s growth in domestic consumption over exports, and the expansion of its service sector vis-à-vis manufacturing. Both trends had been forecast for years.
Last holiday season, China-based online orders of U.S. brands increased eightfold over 2014. Car sales have been rising every month since last July, reaching a record 2.44 million in December. Residential housing prices are climbing again after a drop early last year. Starbucks and McDonald’s are aggressively expanding the number of their Chinese stores. Nike and Apple, among others, are reporting record sales. Growth in consumer spending is expected to exceed five percent per year over the next decade, far ahead of the United States and Japan.
The Shanghai Composite Index has fallen 16 percent in the 12 months leading up to January, making investors nominally one-sixth poorer, but this has not had much of an impact on the banking sector. New loans and local government-bond issues reached a 12-month high of 14.4 percent in December. More seriously, up to $800 billion in capital left the country last year—much of it in the final quarter—following the central bank’s attempt to manage the slide in the value of the yuan. Yet China still has over three trillion dollars in foreign-currency reserves, and the state has not used all means at its disposal to prevent further capital outflows. Most of this results from China’s precautionary repayment of existing dollar debts, rather than massive investor flight. In any event, the exchange rate’s downward adjustment is not necessarily detrimental to future growth: Chinese products will remain competitive at home and abroad.
Attempts to shift China’s economic emphasis from investment and foreign demand to domestic consumption were bound to cause some decline in growth. The political implications of that necessary transition nevertheless present Beijing with serious challenges. Further growth of the service sector requires reducing bureaucratic regulation and ending uncertainty over property rights, which should entail major legal and administrative reforms. The switch from savings to spending is unlikely to ensure continued domestic growth without significantly increased state spending on social welfare, pensions, health, and education. Both state and private employers are reluctant to raise wages and salaries.
The prospects for the political reforms needed to accommodate China’s economic transformation are uncertain. Stock and currency market volatility appear to have reduced, rather than increased, elite support for political changes. An unholy alliance is in the making between reform-resistant local party bosses, who want to retain their power to meddle in economic decisions at the municipal or provincial level, and corrupt nouveau-riche wheeler-dealers who are comfortable with the existing model of institutionalized patronage.
The Confucian paradigm, developed over two and a half millennia, prefers stability over innovation. Over the past quarter-century, this model has translated into efforts to maintain the legitimacy of the authoritarian political system by producing impressive economic fruits: the tangible “heavenly mandate,” sought by China’s emperors over the ages. This may mean a chronic political crisis more serious than any short-term economic and financial challenge faced by the regime.
Should this happen, one danger is that the leadership in Beijing would opt for a more assertive foreign and military policy, primarily in China’s near-abroad, to provide an external focus of attention and patriotic fervor as a substitute for unresolved domestic tensions. Historical examples show that this is a risky course—e.g., Spain under Philip II, Austria-Hungary after the Annexation Crisis, the Kaiserreich in 1914, Saudi Arabia today.
The United States needs to be careful in responding. We should encourage China’s domestic reform by means of her global trade and financial integration, and accommodate her regional security ambitions. But it would be destabilizing, and detrimental to the American interest, to allow those ambitions to morph into a bid for outright regional hegemony, which would supplant the Middle Kingdom’s gradual transformation into a stable and predictable player in a multipolar world.