Yet Another Sign Of China’s Ill Economic Health

A read of China’s latest inflation figures should be keeping the country’s leadership in Beijing awake. The complete lack of consumer inflation announces that the property crisis is not China’s only economic problem. At the same time, declining producer prices announce that the planners in Beijing have created fundamental distortions in China’s economy.

According to Beijing’s National Bureau of Statistics, consumer prices rose a mere 0.2% over the 12 months to this past June. This result was far below the consensus expectation for a 0.4% rise and even May’s 0.3% rise. Countries suffering from inflation might welcome such figures, but in an economy, like China’s, that needs desperately to stimulate consumer spending, they speak to failure. Meanwhile, prices at what Chinese statisticians refer to as the “factory gate” and the rest of the world refers to as producer prices, were in June 0.8% below year-ago levels. June then is the 21^st consecutive month of such declines. This persistent downward price pressure screams oversupply. Chinese factories are producing more than either Chinese or foreigners want.

China’s lackluster consumers lie at the root of these problems. Their reluctance to spend is hardly a surprise. China’s general economic slowdown has crimped wages, and where wages have not declined absolutely, they have disappointed expectations formed during the economy’s long period of rapid growth. The weight of these developments has fallen hardest on the middle- and lower-ends of the economy’s income distribution. The legacy of lockdowns and work interruptions during the pandemic and the long period following when Beijing imposed its zero-Covid policies have no doubt given Chinese workers the sense that they cannot earn as they once thought they could and accordingly further eroded their confidence and willingness to spend. If this were not enough, the property crisis has brought down residential real estate values. The 100 biggest Chinese real estate companies report prices down some 17% from a year ago. Since most Chinese have the bulk of their wealth tied up in their home, feelings of wealth and a willingness to spend have suffered.

A still more ominous story lies behind the drop in producer prices. Last year, Beijing, frustrated that consumer spending was so restrained, sought an economic boost by beefing up manufacturing capabilities in areas that Beijing’s planners thought would dominate the future — sophisticated electronics, for example, batteries, electric vehicles (EVs), solar cells, and the like. But as should be clear from declining producer prices, there is insufficient demand for this increased capacity. Doubtless, this problem would have arisen under any circumstances, but it has become especially acute because western countries have taken action to limit Chinese imports. Both the United States and the European Union have variously imposed tariffs on Chinese-made EVs and batteries as well as solar cells, the United States more broadly and aggressively than Europe, but both have taken action.

China’s exports to the EU and the U.S. have accordingly fallen over the last five months, 10% with the former and 17% with the latter. Chinese exports have risen overall, despite these declines, largely because of a 60% surge in exports to Russia, about a 17% increase in exports to Latin America, and a 7% jump in exports to Southeast Asia. The increased sales in Russia clearly reflect the broad western embargo against Russia that leaves it China as one of its only sources. The sales increases in Latin American and Southeast Asian mostly reflect shipments of parts to Chinese factories placed there to get around American and European tariffs and other restrictions. Both the U.S. and the EU are taking steps to thwart this subterfuge.

Even if the Americans and Europeans were more welcoming to Chinese products than they are, Beijing’s effort to build up manufacturing capabilities as a substitute for slack consumer demand would have been a mistake. For years now, various international bodies, such as the International Monetary Fund (IMF), have advised Beijing to depend less on exports of manufactures and more on a domestically driven growth model. Beijing has at times embraced just this advice and claimed such an adjustment as its policy. The substitution Beijing made last year flies in the face of this needed fundamental adjustment, and because of changing attitudes in America and Europe was especially ill timed. The outright drop in factory-gate prices, speaks loudly to yet another problem for China’s economy.