Why China's economy is down (not out)

China’s slide into deflation is a mixed development for the rest of the world. A rapid Chinese recovery after Covid-19 restrictions were lifted would have helped the global economy find its footing sooner. On the flip side, lower prices of Chinese exports will allow central banks to tackle inflation. The price signals are weak. However, with core inflation rising, Beijing is expected to roll out stimulus to prop up domestic consumption. The Chinese government’s harsh zero-Covid clampdown has subdued consumer spending, particularly with the property market in a tailspin. The economy is on track to meet the official target for the year, and youth unemployment is at a multi-year high. None of this indicates China is headed for prolonged deflation like neighbouring Japan. But the economy must swivel from investment-led growth to one driven by consumer spending once Chinese buyers recover from the effects of the pandemic.

Bank deposits have swollen after lockdowns were lifted in China, in contrast to revenge spending that makes advanced economies resilient to rising credit costs. There is reason for the Chinese consumer to be cautious. Social security is thin, and falling house prices have made it thinner. Urban migration has slowed down to coincide with peak population. Slowing economic growth is causing a rise in unemployment, reversing a trend that has been in play since the 1990s when real wages were on a tear.

Yet, the official GDP growth target of 5% for the year is robust for an economy of China’s size. Its government has fiscal and monetary space to prop up demand. This time, Beijing may avoid building excess manufacturing capacity that is idling and turning its new cities into ghost towns.