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China’s Inscrutable Contraction

As China shifts to a more domestic-demand driven, services-oriented economy, a transition to slower trend growth is both inevitable and desirable. But the challenges are immense, and no one should take a soft landing for granted.

CAMBRIDGE – While virtually every country in the world is trying to boost growth, China’s government is trying to slow it down to a sustainable level. As China shifts to a more domestic-demand driven, services-oriented economy, a transition to slower trend growth is both inevitable and desirable. But the challenges are immense, and no one should take a soft landing for granted.

As China’s economy grows relative to the economies of its trading partners, the efficacy of its export-led growth model must inevitably fade. As a corollary, the returns on massive infrastructure investment, much of which is directed toward supporting export growth, must also fade.

Consumption and quality of life need to rise, even as China’s air pollution and water shortages become more acute in many areas. But, in an economy where debt has exploded to more than 200% of GDP, it is not easy to rein in growth gradually without triggering widespread failure of ambitious investment projects. Even in China, where the government has deep pockets to cushion the fall, one Lehman Brothers-size bankruptcy could lead to a major panic.

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