By Rohit Dhalaria
This article is the first part of a series of two articles by Rohit Dhalaria. Find the second part here.
George Osborn couldn’t have been any more correct in his statement early this year – “Last year was the worst for global growth since the crash and this year opens with a dangerous cocktail of new threats”. Osborn’s prophecy is proving to be accurate with both China and the United Kingdom joining the list of countries facing an economic slowdown.
China is still undergoing recovery from the hangover of the Global Financial Crisis of 2008. In order to immunize itself from such crises, the Chinese government came up with an antidote called “Domestic consumption model”. The purpose of this model was to solely sustain the Chinese economy through domestic demand. Despite its considerable flaws and the subsequent adverse impacts on the Chinese economy, the government has heavily relied on it. Exemplifying this state of denial is the government’s official statement assuring progress with the given model.
Europe, on the other hand, is in a state of economic influx with Brexit. Most European and non-European countries are experiencing a slowdown in trade and investment, given increased trade barriers. Economists have also expressed their concerns over the economic effects of Brexit on the global economy.
A major consequence of Brexit has been the debunking of the UK’s previously unshaken belief of being immune to foreign risks.
This article discusses the major reasons behind the Chinese and British economic slowdown and its effects worldwide. Though the factors behind the respective meltdowns are different and independent, their combined effects on various economies, from a global view, are enough to accelerate this world towards a global economic derailment.
China: The Wrong Antidote
When the 2008 crisis struck, China was one of the most affected countries. This was due to the overdependence of the Chinese economy on overseas demand. However, in a recessive world economy, this external demand crashed, highlighting the vulnerability of the unstable Chinese economic model.
Initiating corrective steps, China shifted its economy to a model dominated by domestic demand. However, this remedy turned out to be in direct contradiction with Chinese fiscal policies, which are hindering the growth of domestic consumption and demand. The two major issues with this “domestic demand” model are discussed as follows.
The Trite Case of Excess Supply
For one, the aforementioned policies, which were first introduced in the 1980s, forced the households to save in order to boost investment in the rapidly growing industries in China. Not only does this hinder the growth of domestic demand but also creates excess supply in the market. Without sufficient demand to cater to, it makes this an inefficient antidote. In a report by The Demand Institute, it was noted – “China is unique in having a period of sustained decline in consumption’s share of GDP that was due to both, the decline in household income’s share in GDP and a rise in the household savings rate.”
However, the contribution of Chinese consumption to the GDP was not always this low. In 1952, domestic consumption accounted for 76% of the country’s GDP. Since the implementation of such savings-oriented policies, this share dropped to a new low of 28%. At present, China has the lowest share of private consumption to GDP in Asia.
Nothing But A Fool’s Paradise?
Secondly, this remedy is not only ineffective but also deleterious. When China couldn’t meet the excess supply with the necessary domestic demand, the government began to rely on debt-fuelled stimulus. This meant that the state created fake demand in the market through a process of increased borrowing. Such credit growth inevitably brings about high risk, which can trigger a systematic failure of the economy, driving it straight into a financial crisis.
The debt-fuelled stimulus has helped sustain the economy for a few years but it has saddled the nation with a US $30 trillion debt.
The incumbent government actively propagates the policies of high savings, fixed asset investment and credit growth in conjunction with the domestic demand-driven growth model, which instead of helping the condition of China’s economy are proving to be detrimental to it.
Rohit Dhalaria is an undergraduate law student at the National University Of Juridical Sciences, Kolkata.