China Faces Massive Levels of Debt as Xi Consolidates Power

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China may have domestic concerns to grapple with this year.

The Chinese Communist Party’s careful preparation for a change of direction will be realized in mid-October in its congress. The event will reshuffle the highest ranks of the party and serve as a significant test of President Xi Jinping’s efforts to consolidate power.

To date, all indications stage to the president’s success in strengthening his grip over the nation’s top decision making bodies. Xi has already achieved the status of core leader, not merely of the Communist Party, but of the Chinese state and military, as well.

He’s also managed to quickly promote a lot of his partners to prestigious positions in recent months. Looking ahead, as much since 11 Politburo and five Politburo Standing Committee members are currently nearing retirement, vacancies that could give Xi a chance to fill nearly all seats in the bodies with political allies.

Even more significant, party members are likely to endorse the addition of Xi’s philosophy of the Communist Party Constitution in the approaching Congress, permitting him to combine the venerated ranks of Deng Xiaoping and Mao Zedong. However, the summit will indicate the lengths to which Xi should go to secure the political compromises he seeks.

It remains to be seen whether the president will be in a position to violate the ruling party’s habitual age limitation to maintain longtime ally and anti-corruption czar Wang Qishan, to the Politburo Standing Committee. It’s Similarly unclear if Xi intends to attempt to expand his presidency beyond the two-term ceiling stipulated in the Chinese Constitution.

Xi will emerge from the party’s congress with the political capital required to see a lot of his ambitious visions through. However, in the aftermath of widespread mortality among the Party’s top ranks, the president will focus his instant attention on stabilizing the country.

Xi will seem to contain any economic issues in the home or disputes overseas that may sabotage the picture of the Party or the president’s status within it. This effort will consist of steadying China financial system and hugely leveraged firms while mitigating the possibility of volatility. To that end, China has tried to blunt the impact of U.S. Trade measures, insisted on discussion with North Korea while discouraging U.S. Military actions and struck a temporary deal with India to end their tense border standoff.

China faces a daunting test—with its political stability in the balance.

China’s sensitive environment won’t cause its leaders to ignore economic reform entirely. The party’s newly instated officials, after all, will have to boost the public’s confidence in the authorities as the economy stays stable but weak.

Within the last several months, Beijing has combined broad-based structural reforms like the consolidation of businesses, production cuts and the enforcement of environmental regulations with renewed attempts to chip away at the mountain of debt crippling the nation’s state-owned enterprises, financial sector and local authorities. These reforms will only accelerate in the upcoming quarter.

After three decades of historical financial growth and social change, Beijing, amid slower growth and the aftereffects of a debt binge, is transitioning from an investment-driven, export-based economy to one fueled by domestic consumption.

Meeting demands for clean air, affordable houses, improved services, and continued opportunities are going to be essential for the government to maintain legitimacy and political order. President Xi’s consolidation of power could threaten an established system of steady succession, while Chinese nationalism—a force Beijing occasionally encourages for support when facing foreign friction—might prove hard to control.

China’s economy appears to be on shaky ground, as layoffs increase and consumer debt levels and capital flight skyrocket.

Chinese President Xi Jinping has suggested sending China’s increasingly debt-prone youth to work in the country, in a “Second Cultural Revolution.” Few have taken the offer despite employment opportunities in farming, food processing, and rural tourism.

Industrial manufacturing—comprising approximately 45 percent of China’s GDP—is suffering from debt-laden overproduction. Chinese corporations owe an aggregate amount equivalent to 170% of China’s GDP.

The state-supported National Institute for Finance and Development (NIFD) stated earlier this year that local and provincial governments, small businesses, and households owe an amount totaling 154 trillion yuan (almost $23 trillion)—228 percent of China’s GDP. The NFID estimates that household debt alone is projected to reach 66 trillion yuan ($8.45 trillion) within the next three years.

The government’s efforts to resettle urban unemployed in the country could be a preemptive attempt to disperse concentrations of disaffected workers to more rural environs.

Corruption, Speculation, and Money Laundering

Economists and media pundits within China have recently escalated rhetoric critical of financiers and industrial elites. Wang Xiangwei, a Beijing-based media pundit, harshly criticized speculators and financial tycoons for their prolific exploitation of regulatory loopholes and government connections.

In the South China Morning Post, Wang wrote that these speculators secured cheap loans for themselves while issuing high-risk financial products to finance projects and investments both within and outside of China.

Furthermore, China’s wealthy have begun moving massive amounts of capital abroad, under the guise of the government’s call for investing overseas—termed “going out.” A particular tactic being used is inflating the value of one’s domestic assets and guaranteeing these funds to overseas branches of Chinese banks, which in turn provide them with overvalued loans which finance asset acquisitions abroad.

Lay-Offs and Labor Disputes

China’s massive labor force has enabled it to become the globe’s manufacturing hub, creating massive domestic economic growth. Unemployment insurance covers only about 10% of China’s 270 million migrant workers according to the Chinese Government’s statistics agency.

Lin Yanling, of the Beijing-based China Institute of Industrial Relations, says that “the size of China’s labor force has peaked, but it’s wrong to think that there will be no employment problems.” Lin said 80% of China’s workers are “in a weak position” regarding their job and wage security, adding “if the economic situation is not good, their position will become even weaker.”

China’s economy is heavily export-driven. Competition from countries offering lower-wage workforces will have an impact on workers in the manufacturing sector.

Any mass-disruption for manufacturing workers, migrant workers, or other low-wage worker is bound to have consequences for internal stability that could prompt a forceful intervention by the government. This and ongoing wage stagnation are the two issues of most significant concern. Thus, the government’s efforts to resettle urban unemployed in the country through offers of paying jobs could be a preemptive attempt to avoid internal disruption by dispersing concentrations of disaffected workers to more rural environs.

Beijing’s Balancing Act of Long-Term Stability over Short-Term Growth

According to the South China Morning Post, the impending economic crisis is rooted in expansive fiscal policy, increased government spending, rising property values, extremely lax monetary policies, record-high bank lending, and exploitation of regulatory loopholes. In 2009, during the last economic crisis in China, then-Premier Wen Jiabao oversaw the disbursement of over $500 billion to stimulate the stagnating economy. This provided severely needed relief to the economy, but ongoing corruption and crony capitalism, combined with rising competition from lower-wage countries like Vietnam, ensured that growth continued to stagnate.

Between 2010 and 2015, Chinese economic growth steadily declined from 10.5% (annual GDP growth) to 6.9%, respectively. The current GDP growth target is 6.5%. Louis-Vincent Gave, co-founder of Gavekal Research, recently said “the 6.5% growth target, you can still achieve it, but at a higher and higher cost. So why would they [the Chinese Government] want to keep doing that?” Gave added that the practice of dropping growth targets could serve to decrease short-term growth, but promote long-term sustainable growth.

Beijing probably has ample resources to prop up growth while efforts to spur private consumption to take hold. Nevertheless, the more it “doubles down” on state-owned enterprises (SOEs) in the economics, the more it’ll be at higher risk of financial shocks that cast doubt on its fiscal management capabilities.

Automation and competition from low-cost producers elsewhere in Asia and even Africa will put pressure on wages for unskilled workers. The nation’s rapidly shrinking working-age population will act as a strong headwind to growth.

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