Australia got taken by surprise when China's rapid economic development turned into our biggest ever resource investment boom and our biggest export market a decade or so ago. This has massively boosted national income and, even with the investment phase over, China continues to buy increasing amounts of Australian iron ore and coal, send us increasing numbers of tourists and demand all sorts of middle-class goods and services, such as for health. By now, Australia has taken for granted that China's massive economy will keep posting 6-7 per cent annual growth. This China complacency is dangerous. There are clear warning signs that China's adjustment from a government-led and investment-driven economy into consumer-led growth one is not happening quickly enough.
As the International Monetary Funds' Article IV report on China last week, followed up with on-the-ground reporting by our Shanghai-based correspondents in AFR Weekend show, China's development is still being largely led by state-subsidised construction activities, fuelling a debt binge expected by the IMF to hit 300 per cent of gross domestic product by 2022. There is no doubt that China is changing to a consumer-led and more service-based economy. But, among other things, this implies less direct state control over the economy and its growth. The governing Communist Party ties its legitimacy to generating high levels of economic growth in order to propel as many of its citizens out of poverty and into the middle classes as quickly as possible. A consumption-led economy, precisely because it puts spending sovereignty in the hands of consumers, by its nature takes power away from the state. This conflicts with president Xi Jinping's efforts to consolidate more power to himself.
The other inherent tension is that maintaining rapid economic growth will require China to liberalise its financial sector so that its huge pent-up pool of savings can find its most efficient use and so that unproductive state industries are not further propped up by unsustainable growth in debt. Capital wants to flee China, both for normal portfolio diversification but also to find political safe harbour offshore. But the Communist regime wants to more tightly manage the liberalisation of China's capital account, for instance directing it to state-sanctioned initiatives such as its One Belt One Road development and away from risky property ventures. That seems to be behind the partial pullout of China's Wanda Group that The Australian Financial Review has been in the forefront of reporting. And Beijing is also keen to ensure that the more liberalised capital account that the IMF and others call for does not push down the value of the yuan, ironically prompting trade retaliation against China from Donald Trump for not playing by the rules of fair trade.
The minutes of the Reserve Bank's August board meeting released last week warned that China's economic growth was likely to slow over the next few years and remained "a significant source of uncertainty". Board members highlighted the "difficult trade-off" between maintaining economic growth and dealing with the build-up of leverage, highlighting the potential for policy to tighten too much. Australia's China boom has lasted for 15 years or so. The implicit assumption that it will keep going for two decades or more is less about reasoned optimism and more about a preference to kick hard decisions down the road.
