Just as the global economy has all but recovered from debt-fueled crises in the United States and Europe, economists have a new worry: China. They see a lending bubble there that threatens global growth unless Beijing defuses it.
That’s the view that emerges from an Associated Press survey this month of 30 economists. Still, the economists remain optimistic that Beijing’s high-stakes drive to reform its economy – the world’s second-largest – will bolster Chinese banks, ease the lending bubble and benefit U.S. exporters in the long run.
“They’ve really got to change the way they do business,” said William Cheney, chief economist at John Hancock Asset Management. “But they have a good track record of doing just that. I’m an optimist about their ability to make this transition.”
The source of concern is a surge in lending by Chinese banks. The lending was initially encouraged by the government during the 2008 global financial crisis to fuel growth. Big state-owned banks financed construction of homes, railroads and office towers. But much of the lending was directed by local officials for pet projects rather than to meet business needs.
On Monday, the International Monetary Fund issued a warning about China’s private debt. It released a report citing “rising vulnerabilities” in China’s financial system, including lending outside traditional banks. Lending by that “shadow” banking system now equals one-quarter of China’s economy, the report said.
The IMF also pointed to recent defaults in credit-card and other debt sold to investors by banks and heavy debts owed by local governments.
If it continues, “this could spark adverse financial market reaction both in China and globally,” the IMF said.
The bubble has caused land prices in China to double in five years, according to an estimate by Nomura, a Japanese bank. Outstanding credit surged from 130 percent of the economy in 2008 to 200 percent in 2013, according to Capital Economics, a forecasting firm.
When debt has built up that fast in the past – as in the United States during the housing bubble – financial crises have typically followed.
“That should be setting alarm bells off,” said Mark Williams, chief Asia economist at Capital Economics.
When debt finances excessive building, eventually too few people or companies are willing to buy all the houses, apartments and offices. That can send prices sinking and trigger loan defaults by developers and property owners. Banks typically then curtail lending, thereby slowing growth.
Most economists think China’s government would bail out its state-owned banks and provide enough money so they could continue lending. It would also support any companies whose bankruptcy would threaten growth.
“I don’t think anybody important is going to be allowed to go broke,” Cheney said.
China’s government has adopted a reform program intended to strengthen its financial sector and transform its economy with more consumer spending and less dependence on construction and investment.
The IMF said those efforts could make growth more sustainable and boost consumption. But it said progress “remains incomplete.”
Premier Li Keqiang, China’s top economic official, promised in March to give market forces a “decisive role” in allocating loans. Days later, the government let a corporate bond default for the first time, rather than bailing out the investors, to encourage more market discipline.
Also that month, China cleared the way for the first five privately owned banks. The government hopes they will lend more to entrepreneurs and private businesses, and provide competition for the state-owned giants.
The measures are having some effect. New lending slowed in March. And the expansion of China’s money supply rose at its slowest rate since 1997. Home sales in the first quarter declined 5.7 percent from a year earlier.
But there’s been a cost to China and the global economy. The economy’s growth slowed to 7.4 percent in the first three months of the year, compared with a year ago. That was down from 7.7 percent in last year’s fourth quarter. While still far ahead of developed economies such as the United States, that rate was well below the double-digit growth China had enjoyed for decades.
The AP survey collected the views of private, corporate and academic economists on a range of issues. Most said they thought China’s slowdown posed a threat to countries that ship huge amounts of commodities – including iron ore and copper – to China. Among them, Canada, Brazil, Indonesia and Australia have already felt the sting.
Sun Wong Sohn, an economics professor at California State University’s Smith School of Business, estimated that each percentage-point decline in China’s growth rate shaved about 0.3 percentage points from global growth.
Consumption accounts for only 55 percent of China’s growth, the government said last year. That compares with 70 percent in the United States. But if China’s government succeeds in its reforms, it could benefit U.S. companies by enabling more Chinese consumers to buy U.S. goods and services.
“It’s what we’ve been calling on them to do,” said Phillip Swagel, an economics professor at the University of Maryland and former Treasury Department official.
Among the economists’ other views that emerged from the AP survey:
– The United States would benefit from lifting a government ban on exporting crude oil and promoting more natural-gas exports. Oil and gas drilling has boomed in recent years in North Dakota, Pennsylvania and other states, prompting oil companies to call for a lifting of the ban.
– U.S. economic growth and hiring will pick up in the second half of the year. The economy is expected to grow at an annual rate of 3.1 percent from July through December, up from only 2.3 percent in the first half of the year. And the unemployment rate will fall to 6.2 percent by the end of this year, they forecast. The rate is now 6.7 percent.
– Federal Reserve Chair Janet Yellen will manage the unwinding of the Fed’s stimulus programs without causing a surge in interest rates or panicking investors. Nearly three-quarters of the economists said they were “somewhat confident” in Yellen’s ability to do so. Six were “very confident.” Only two said they were “not confident at all.”