Does China Need to Rebalance?

Rebalancing China’s Economy? Fuhgeddaboudit
“We believe the obsession with rebalancing China’s economy is leading to misguided policy recommendations that are too blunt and may carry unintended consequences,” including, perhaps, reducing savings, write HSBC economists Qu Hongbin and John Zhu in a new report.

Sure, China’s investment rate is ultra-high at around 48% of GDP, they acknowledge. Sure the household consumption rate is ultra-low at roughly 34%–about half the level of the U.S. ( Some economists think that China’s consumption rate is lower than U.S.’s ever was, in its entire history.)

But Messrs. Qu and Zhu argue that China is a poor country and investment is still necessary. “There are still more useful infrastructure projects to be built before the country gets overrun by bridges to nowhere,” they write.

And, they argue, who says a consumer-based economy is so great, especially one powered by debt? The U.S. hasn’t exactly been a beacon to the rest of the world in the last couple of years when it comes to the economy.
They go on to argue that China does need to invest more wisely, but that's really the heart of the debate.

Housing is consumption, so China already has a consumption rate well over 40%. What needs to happen is a move away from housing consumption towards other forms of consumption. The high investment rate also isn't a problem. What needs to happen is more efficient capital allocation, which can be helped along by market interest rates. If there aren't profitable investments when market forces shape investment decisions, then consumption will rise. In other words, market reforms will reveal the malinvestment and this will lead to a natural decline in investment. That doesn't mean investment must fall in theory. If there are lots of profitable projects out there, investment might rise. However, the evidence favors the argument that some of the "over" investment is going into marginally productive or even capital destructive investments.

In sum, I don't think China needs more consumption or needs to rebalance in the abstract sense. They don't need social security and free healthcare in order to boost consumption, this is complete nonsense from the standpoint of the economy and growth rates. People do not need to be forced into consumption or told what to consume (unless control is your aim); everyone is a natural consumer. Market based pensions and healthcare are superior because they match costs with needs. Look at the pension disasters in the developed world to see what happens when the market signals are distorted and the link between individual action and consequence is broken.

What China does need is a greater role for market forces in allocating capital and labor. It practical terms, it will rebalance because it must. If there is no rebalancing, malinvestments will continue and bad debts will mount until the whole system collapses. That is why Tan Yaling has said that China's entire forex reserves will be gone in 5 years if China cannot change the current growth model.

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