Question

• Identify which stage of the business cycle the economy of China is presently in. Explain your findings.
• When did China last experience a recession?

Answer 1

Business Cycle In China: Decreasing Growth Rates

The overall Business Cycle China trend is still towards GDP Growth. A Trade Cycle describes the normal economic development of alternating booms and recessions. However, it is difficult to see the Economic Cycle China in this context since it has seen growth for decades.

A trade cycle is an economic theory showing how the growth of a country can be classified depending its current phase. Generally, four phases occur: the boom, the peak, the recession, and the recovery. The boom is a period of high growth causing inflation, whereas the peak is when growth begins to stagnate at the top of an economic cycle.

During a recession, economic output falls while the recovery encounters growth. Many factors affect an economic cycle, and while a country can try and influence the process, it can often be outside of the nation’s control.

If high confidence in the economy exists due to current growth, a knock-on effect may emerge which further increases growth. The momentum of positive growth allows businesses and consumers to contribute to the economy by spending more money on goods and services, leading to increased asset prices.

The government can also try and influence the trade cycles by manipulating the interest rate. Battling inflation through interest rate controls, the central bank encourages citizens to both save money and avoid assets and loan acquisitions. This should slow down the rate of inflation. During global economic downturns, the global economy suffers as each country is negatively affected by external factors. Often, technology advancements induce stronger economic growth which eventually lifts the world economy.

Business Cycle China: Slow Down to Normality

The Chinese Government is in general playing a special role in China’s business cylce. With state intervention, China has been able to carefully position themselves stronger compared to similar nations.

Due to reforms started in the 1970s, China’s economic performance experienced a remarkable economic boom where average annual growth exceeded 10%. China’s large trade surplus has resulted in an economy dependent on exports which is driving untenable imbalance of trade between exports and imports.

During the 2008 slowdown, many firms encountered large inventories leading to failures to repay loans. This situation, coupled with weak domestic consumption of goods failed to generate the demand to continue to grow the economy. Through manipulating monetary policy China is trying to stimulate growth by cutting interest rates.

As a result, the government encouraged a massive infrastructure and housing investment strategy which caused real estate prices to explode as banks offered favourable bank loans to encourage investment. One adverse result of this policy is the country’s debt to GDP ratio rose to the highest debt to GDP ratio of all emerging economies.

While China’s current growth rate is slowing, the country has not yet experienced a recession, but the uncertainty surrounding the country is apparent. China is facing many threats, with many other emerging countries able to offer cheaper exports, the countries needs to focus on sustainable growth, and start to address the problems they can see emerging.

By large state sector and continuously adjusting regulations, tightening restrictions on amounts brokerages can lend for stock trading, as well as purchasing foreign exchange reserves to reduce Yuan appreciation China is able to influence the China business cycle.

Not only China is worried about a sudden stop of the economic growth
– the whole world would be strongly affected.

Currently the economy in China is starting to normalize and return to the stand condition considering their position. After going through a rapid catch up process after such unprecedented growth, the normalization process is usual after such a large boom, but with the possible recession cycle to follow it will be interesting to see how able China will cope.

A brief review of the increasing importance of China in the world economy and discusses the spillover effects of the global financial crisis on China's financial markets and macroeconomy. It presents and critiques alternative ways of estimating these effects. Contrary to much popular discussion, China was hit fairly hard by the global recession generated by the financial crisis. It suffered a huge drop in exports, and these effects on the economy were only partially offset by China's huge stimulus program. While growth remained well above international averages, its drop was of the same order of magnitude as for the United States. The paper closes with a brief discussion of some of the major challenges facing China to rebalance its economy in order to sustain high growth.

In the last two decades, China’s economy has emerged as a major player in the world economy. China’s high GDP growth has changed the distribution of economic activities across the world. It has passed Japan to become the second largest economy, and it is only a matter of time before it passes the United States. China’s exports have lowered consumer prices across the globe, and its imports have begun to have a major impact on global commodity prices. China has become a major hub of intraindustry trade. From this point of view, China may become the engine of the world economy.

It is more important than ever to know how China responds to the global economy, especially the global financial crisis and ongoing concerns regarding US recession. This paper provides a brief review of China’s economic position in the world economy, discusses the spillover effects of the global financial crisis on China’s financial markets and the real economy, presents and critiques alternative ways of estimating these effects, and analyzes the reasons for the limited impact of the global crisis on China. One interesting result is that while China was not one of the countries hardest hit by the crisis, neither was it as insulated as many have assumed. While its high growth rate during the crisis was the envy of most other countries, China’s growth was substantially lowered by the crisis, suggesting that the decoupling of China’s growth from the advanced countries may not be as great as many popular analyses have suggested. The paper also provides a discussion of the major challenges facing China for a sustainable growth.

China’s Position in the World Economy

From 1978 to 2010, the share of China’s GDP in the world economy increased from 1.7% to 9.5%, when valued at market exchange rates [1]. The share of China’s GDP in the world economy is even higher if purchasing power adjusted prices were applied. This is due to both the differences between the prices of traded and nontraded goods that lead to an understatement of the real incomes of most developing countries and an exchange rate that it is widely (although not universally) viewed as being substantially undervalued. The increasing weight of China and the other emerging countries in the world economy not only has helped contribute importantly to global growth but also has helped diversify the engines of global growth. This in turn over time should help contribute to greater stability in global growth.

Since the 1970s, the value of Chinese trade has approximately doubled every four to five years, gaining speed after the economic reforms launched in 1992. With this rapid growth, in 2010, China overtook Germany as the world’s top exporter with exports worth about 1.5 trillion US dollars. By this time, China’s share of world exports had risen to around 10%, up from 3% in 1999, while the United States came in third behind Germany on the list. Meanwhile, China’s imports ranked third in the world at about 1.3 trillion US dollars in 2010. This rapid growth has transformed China from a negligible player in world trade to the world’s leading exporter and a substantial importer.

China exports not only consumer goods but also electrical and other machinery, including data processing equipment, apparel, textiles, iron and steel, and optical and medical equipment, while its major imports include electrical and other machinery, oil and mineral fuels, optical and medical equipment, metal ores, plastics, and organic chemicals [5]. Since China serves as the most important assembly center for the world factory, its imports also include substantial quantities of parts and components that are subsequently incorporated into China’s exports. (A recent study by Li [6] confirmed that intraindustry trade plays an important role in the transmission of business cycle synchronization, financial crisis, and spillover effects, by using both correlation approaches and dynamic factor models).

While China’s exports have led to lower prices for consumers across the globe, this competition has also generated dislocations for many producers in other countries who in turn have been placing pressure on national governments to offer them protection against what they allege to be unfair competition. These pressures have been particularly strong in the United States and have been felt in many other countries as well.

In the US Congress, China’s huge bilateral surplus with the United States has been a particular focus of attention. It is important to recognize, however, that in part because of China’s important role as a center of intraindustry trade, this bilateral imbalance substantially overstates the amount of global disequilibrium that is being generated by China’s super competitiveness. For example, China runs bilateral deficits with a number of Asian economies that provide inputs to its exporting firms. It should also be noted that a substantial promotion of China’s exports are generated by multinational corporations, not just Chinese firms.

With China taking up more than 20% of world platinum and 17% of world palladium demand, news of the tightening policy from China had a swift downward effect on commodity prices and roiled world markets, while in countries such as the United States, most attention is paid to China’s exports. However, China is also a major importer, especially of commodities. China’s strong stimulus package during the global financial crisis resulting in strong import demand was an important prop for global commodities prices. The more recent concern about rising inflation has led to a substantial monetary tightening in China which has also had a major impact on commodity prices.

Spillover Effects of the Global Financial Crisis on China’s Economy:

The subprime financial crisis in the United States unleashed a series of severe effects from the stock market collapsing, financial institutions failing, and economies pushed in recession. The crisis spread from real estate to other sectors of economy and across the globe leads to the global financial crisis (for discussion of the spread of the crisis, see the analysis and references in Willett et al. Although China was able to maintain relatively high economic growth, the negative effects from the global financial crisis on China were considerably stronger than is often realized. This misconception arose largely because China continued to have one of the highest rates of economic growth across the globe, recording 9.6% in 2008 and 9.2% in 2009 . What is typically missed is that, while most countries would be delighted to have such growth, these rates reflected a substantial drop from the 14.2% growth in 2007. In terms of the falls in growth rate during the crisis period, China was hit hard as many of the advanced economies.

China’s annual GDP growth rates:

The crisis spread through a number of channels. In the initial stages, financial channels were the most important. Financial institutions from a number of countries, especially in Europe, had invested heavily in securities linked to the US real estate market. These investors suffered huge losses. These investors generated a general flight to safety which led to large capital outflows from many emerging market economies that had few direct linkages with the US real estate market. China proved to be largely immune to these wealth and capital flow effects. FDI in China decreased during the beginning of financial crisis and rebounded to almost the precrisis level later on. As shown in Table 2, China’s net FDI decreased to $121.68 billion and $70.32 billion in 2008 and 2009, dropping 15% and 42% year on year, respectively, and increased to $124.93 billion in 2010.

However, there was also a global financial impact that did not operate directly through capital flows. The crisis affected the economic outlook and risk attitudes across the globe and China was not immune. Before the crisis, extreme optimism had affected many markets across the globe and China’s stock market was no exception. Like in many other countries, China had enjoyed a stock market boom, increasing fivefold between 2005 and 2007. Such rapid growth makes markets highly likely to suffer major reversals, and this is just what occurred when bad news hit.

Starting in October 2007, the stock market in China crashed, wiping out more than two-thirds of its market value [10]. A similar story applies to the real estate market. A bubble started to grow with China’s booming economy, since most of the people believe that investing in property, such as real estate, is safer than putting money in the banks. The impacts of these developments on the Chinese economy were relatively small compared with the trade channel, however.

In its early stages, the magnitude of the crisis was substantially underestimated by most governments as well as private sector analysts. The adverse effects on the real economies were expected to be quite limited. Thus, it was believed that most emerging market economies would be little affected. This gave a bit boost to arguments that the behavior of emerging economy financial markets were decoupling from those of the advanced economies. However, as the crisis began to push the US and Europe into recession, the trade channel came to the fore. The falling demand in advanced economies had a huge impact on their demand for imports from each other and from emerging markets. With its past rapid growth in exports, China was especially exposed to falls in global demand for its exports.

In November 2008, China’s export growth rate fell sharply to −2.2% from 20% in October. As a whole, China’s exports fell by about 17% in 2009 [2], before recovering to positive growth in 2010, as the advanced countries began to grow again (Figure 1). The rebounds of economic growth in advanced countries have been modest, and this has limited the size of the rebound in China’s exports. Although it remains too early to say that China’s export business has leveled off [11], development of the domestic market will help maintain China’s sustainable economic growth over the long term.

Although the global financial crisis and economic downturn reduced foreign demand for China’s exports substantially for the first time in many years, China has kept its relatively high growth rate during the crisis period. In 2010, China’s economy rebounded, with GDP growth of around 10% outperforming all other major economies [5]. China’s economy still has great potential despite the slight softening in 2011 that was noted earlier.

Due to its standout growth rate in the face of the global economic recession, China has set off a new round of discussions on the decoupling hypothesis. Careful analysis suggests, however, that while the rapid growth of economies such as Brazil, China, and India has substantially increased their influence on the global economies and especially on countries in their geographic regions, beliefs in a corresponding decline in the influence of the advanced economies were greatly overstated. The proper measure of the impacts of developments on a country’s economic growth rate is how different the growth rate is from what it would otherwise have been. There is considerable scope for disagreements among exports about just what the counterfactual would have been, but we can get a ballpark idea by comparing the changes in growth rates from before to during the crisis. Willett et al. have investigated GDP growth and the stock markets in the United States and other advanced and emerging market economies during the global financial crisis through 2009 and find that, while countries like China and India had been able to maintain high growth rates, their shortfalls of GDP growth below past trends have not been that much different than for the United States itself. For example, in 2008, the deviation from trend of China’s growth is −3.4 percentage points, even greater in absolute terms than the United States decline of 2.5 percentage points (although proportionately still less of a hit). In 2009, the rankings of deviations are reversed. For the two years combined, the growth short falls are almost identical, 7.8 for China and 8.2 for the United States. Of course, different methods of detrending will give somewhat different figures so little weight should be given to the exact numbers calculated, but the broad conclusion that the declines for China and the US were roughly similar and robust. That the impact on growth in China was roughly the same as in the country of origin clearly shows that not only does China now have a major impact on the world economy but that the world economy can have a major impact on it. Economic interdependence is a two-way street.

This should not be surprising since China’s exports make up roughly 40% of its GDP and China depends heavily on western demand for its goods. The high level of export dependence implies that China is strongly coupled rather than decoupled with the global economies, while on the financial side its restrictions have kept the strength of its coupling substantially weaker, although well above zero.

Given its high level of export dependence, the surprising fact about the performance of the Chinese economy during the global recession was not that growth slowed substantially but that it was able to remain so high. The reasons behind China’s relatively high growth rate in global financial crisis are of interest to researchers and policy makers who are searching for strategies for reducing the damages of future financial crisis.

In our judgment the key factor of China’s high growth rate was its ability to quickly adopt a strong stimulus package. This in turn was feasible because of China’s strong financial position.

In the Asian crisis of 1997-98, the crisis hit countries generally had weak financial sectors and low level of international reserves which sharply limited their ability to adopt stimulus policies in the fare of their recessions. These countries learned a great deal from the crisis and substantially strengthened their financial systems and built up high levels of international reserves. Combined with sound fiscal positions, this gave many Asian economies considerable monetary and fiscal space to adopt substantial stimulus packages to help offset much of the decline in their exports. China is a prime example of this phenomenon.

When the crisis hit, the Chinese government took rapid countermeasures to mitigate the impact of the global financial crisis. Starting in the third quarter of 2008, the Chinese authorities adopted a combination of an active fiscal policy and a loose monetary policy by introducing an RMB 4 trillion ($580 billion) stimulus package for 2009 and 2010 in November 2008. Those efforts to support the economy during the global financial crisis prompted a surge in bank lending. Bank lending in China totaled RMB 9.6 trillion in 2009, reaching nearly half of that year’s GDP. Substantial funds from bank lending was funneled into the nation’s stock and property markets rather than real economic activities, however, which contributed to the partial recovery of China’s stock markets from the lows reached in early 2009. Even after adopting the expansionary fiscal policy, China’s debt-to-GDP ratio was still lower than 20 percent at the end of 2009. In 2010, the Chinese central government budget deficit remained only 1.7 percent of GDP, as compared with 8.9 percent in the United States. These expansive policies had a major impact on the extent of the drop in growth.

China’s economy contracted in the three months to June from a year earlier, signaling the start of a recession despite marginal improvements over the previous period when the coronavirus roiled the economy, according to China Beige Book.

Key metrics including manufacturing profits, capital expenditures and retail sales volumes remained at historically low levels and barely improved from those in the first quarter, CBB International said in a quarterly report based on a survey of more than 3,300 firms.

The retail sector fared the worst, with revenues and profits extending sharp falls. A steep decline in credit costs seemingly didn’t encourage struggling retailers to borrow, signaling continued weakness in the sector. In contrast, the manufacturing sector expanded over the first quarter and services sector performed the best.

Sluggish global demand remained a key drag on growth, with regions more internationally exposed performing worse, while interior regions received a boost from a marked rebound in domestic orders, according to the report.

The eventual return to growth does not mean a return to anything approaching the old levels of growth,” the firm said in its quarterly report on China’s economy. “Until and unless global demand recovers more forcefully, the incremental quarterly improvement just seen will make for a contraction for full-year 2020.”

That pessimistic view contrasts with the outlook of most economists and the government, who all expect the economy to return to growth this quarter and to expand this year.

The latest official data showed China’s economy continued to inch out of the coronavirus slump in May, driven by a recovery in industry amid sluggish consumer demand. China’s economy contracted 6.8% in the first quarter.

The report was based on 3,304 interviews conducted in China mid-May to mid-June. Official gross domestic product data for the second quarter is due for release on July 16.