TOO FAST TO LAST? China Is Too Darn Hot!
Is there such a thing as growing too fast? Yes. And China may be on the brink of burnout.
FORTUNE
Monday, October 27, 2003
By Clay Chandler
For years the heated debate among China-watchers has been whether official statistics have exaggerated China's growth. But lately the argument has been turned upside down: Experts are arguing that China's growth has been underestimated. The reality, they warn, is that China's economy is barreling ahead at a rate far faster than the government acknowledges—and perhaps too fast to sustain. That could spell trouble for foreign companies who are investing billions in China-based manufacturing facilities and are counting on China's 1.3 billion consumers as a source of future growth. Intel, GM, and others cited strong sales in China in their most recent earnings releases.
For the third quarter, China reported growth of 9.1%, faster than any other major economy. In a speech to regional business leaders in Bangkok in late October, President Hu allowed that the economy "remains in good shape" and seems to have "strong momentum." But UBS Warburg economist Jonathan Anderson, who is based in Hong Kong, figures that China's economy grew by as much as 14% in the third quarter. For the full year, he predicts, China will expand 11%, well beyond Beijing's latest forecast of 8.2%.
Too much growth might seem like an enviable dilemma, like being too beautiful or too rich. But the danger is that China could be spinning into a classic boom-and-bust cycle in which a demand spike triggers a burst of excess investment and production. Overcapacity then gives way to furious price cutting and profit erosion. Firms pull back, panicky policymakers hit the brakes too hard and too late by raising interest rates or cutting public spending, and the economy slumps. Andy Xie, China economist at Morgan Stanley in Hong Kong, thinks that China fits the pattern and is due for a "sharp slowdown" in 2004.
Concerns that China is overheating heightened this summer when the country literally overheated. Surging demand for electricity knocked out large swaths of the power grid, forcing recurrent blackouts on China's eastern seaboard. In Shanghai authorities dimmed the lights on the city's famous waterfront and ordered thousands of factories—including plants operated by GM and a Chinese partner—to shift production to weekends or off-peak hours. New factories and increased production in energy-guzzling industries like steel and aluminum were the primary causes of power failures, but consumers also played a role. This year, millions more Chinese households were able to afford an air conditioner, and during an extended heat wave it seemed as if everyone had switched them on at once.
Erratic power supply is just the beginning. Increasingly, foreign companies operating in China are struggling to manage inventories and cope with supply- chain kinks. And price wars are breaking out everywhere. Consider the mobile-phone market, where homegrown competitors including Ningbo Bird, Shenzhen Konka Group, and Legend have wrestled market share from global heavyweights like Motorola, Nokia, and Samsung by flooding the nation with low-cost handsets. Over the past four years, analysts estimate, Motorola's share of the China mobile-phone market has dropped to 26% from 40%, and Nokia's to 18% from 32%. Margins are shrinking for foreign and domestic producers alike.
A flood of cheap credit is also pumping up demand for houses, appliances, and automobiles. In the first six months of the year, passenger car sales leaped 80% in China, a fact all too evident on the snarled streets of major cities. At Shanghai Automotive Industry Corp., which produces cars in separate ventures with Volkswagen and GM, assembly lines are running full tilt. But the company would rather pay overtime than hire more workers. Says vice president Shen Jianhua: "We worry that next year, there could be a sharp drop in buying power."
Easy money is a legacy of the Asian financial crisis, when China's leaders began doling out soft loans and boosting public spending to keep the economy humming. China "remains highly dependent on [government] white elephants," says Standard Chartered Bank economist Tai Hui, who is based in Hong Kong. Plus there's still plenty of foreign direct investment, which hit a record $52 billion last year.
Beijing recognizes the dangers. In August the central bank ordered commercial lenders to raise reserves to 7% of capital, up from 6%. In October, Beijing moved to cut tax rebates for exporters by three percentage points, from the current average of 17%. In Shanghai authorities are limiting residential and commercial construction to deflate the property bubble. Global exporters, who look increasingly to China to replace the U.S. as a primary engine of growth, can only hope that as policymakers fumble for a lower gear, the juggernaut doesn't stall.
From the Nov. 10, 2003 Issue
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