|
While financial market concerns have recently eased, a key external risk remains the ability of high-income countries to avert a deeper economic downturn. A further slowing of OECD (Organization for Economic Cooperation and Development) demand would echo quickly through East Asia's production and trade networks, wherein China occupies an increasingly central position. Domestically, the main downside risk arises from the ongoing correction in property markets, even though property market adjustment has so far remained gradual and orderly.
The longer-term outlook will depend on how China manages key structural challenges. As the traditional engines of growth weaken, GDP growth should gradually slow. The growth benefits of urbanization and industrialization are expected to hit diminishing returns. China will also see major demographic change over time, with old-age dependency rising and the labor force shrinking soon. Total factor productivity growth would likely soften as efficiency gains from first-generation reforms lessen and technology gaps with high-income economies narrow. In addition, welcome efforts to rebalance the economy are expected to not only alter the pattern of growth, but also bring slower, though higher-quality, headline growth.
These structural trends would play out gradually over time. Illustrative scenarios suggest growth could slow from recent rates of 10 percent to 5 percent in around 20 years' time. This would be accompanied by major structural transformations. Industry and investment would see their importance in GDP diminish, while the share of services and consumption would rise. Supported by continued urbanization, reduced inequality and lower energy intensity, the quality of development would improve.
The policy challenge for the near term is to sustain growth through a soft landing. The ongoing slowdown is partly welcome to the extent that it reflects a deceleration in growth in a context where potential growth itself is gradually slowing. While the prospects for a soft landing remain high, there are concerns that growth slows too quickly. However, sufficient policy space exists to respond to downside risks. The burden of any counter-cyclical response should primarily fall on fiscal policy. Adjustments on the margin would be welcome to the stance of monetary policy given the ongoing shifts in the balance of risks from inflation to growth.
The policy response would need to be carefully crafted, keeping in mind longer-term effects and objectives. Relative to previous episodes, fiscal stimulus would ideally be less credit-fueled, less local government-funded and less infrastructure-oriented. Fiscal measures to support consumption would attract first priority (such as targeted tax cuts, social welfare spending and other social expenditure). Reserve requirements could be tweaked further to ease the availability of credit, with policy rate action best reserved for downside scenarios given already accommodative real rates. Ongoing administrative efforts have been helpful in cooling the property market, but would preferably be substituted eventually by market-based measures that raise the cost of capital and expand the range of investment opportunities.
China's longer-term challenge is to continue steering its economy toward a more sustainable path. Given the anticipated structural slowdown, this would involve reinvigorating the underlying drivers of growth to secure healthy per-capita income growth. In view of the economic, social, environmental and external imbalances that have accompanied rapid growth and structural change, this would also involve sustaining the ongoing shift in focus from the rate of growth toward the quality of development.
Meeting these longer-term challenges will by no means be easy. Indeed, few countries have managed during the post-World War II period to break through the glass ceiling that appears to lie between middle and high-income status. New efforts can help China sustain its competitive advantage by progressively shifting from low cost to higher value supported by innovation. New approaches can also help sustain poverty alleviation as the rate of poverty reduction becomes steadily less sensitive to economic growth. Similarly, new strategies can help make growth green and protect the environment.
Email us at: yushujun@bjreview.com | 
