From Foreign Affairs · Oliver Melton · · 4m
China's economics of denial
Beijing sees the same economic crisis data as the world but draws opposite conclusions about what to do.
In brief
Beijing sees the same economic crisis data as the world but draws opposite conclusions about what to do. China's leaders acknowledge economic imbalances but reject reform, betting that technology control and investment will restore growth despite mounting deflation and weak demand. Originally reported by Foreign…
Beijing knows the problems
China's Communist Party has acknowledged its economy relies too much on investment and exports, with weak household consumption threatening future growth and rising trade friction.
But Beijing is not acting
Despite warnings from economists, the leadership has announced only modest plans to boost household consumption. Its overall economic strategy remains focused on expanding investment in manufacturing.
Why Beijing ignores the warnings
The party believes its current path is working. It sees troubling data but reaches different conclusions about what the numbers mean and what Beijing should do in response.
The flawed theory
Beijing's strategy rests on a Marxism-infused misapplication of neoclassical theory: control of advanced technologies and ultrahigh investment will accelerate productivity and wage growth.
Development as capital accumulation
China treats development as equivalent to capital accumulation and sees productivity as determined by technology control. Service sector growth and higher consumption are seen as later-stage consequences.
The input-output table logic
Beijing views the economy as a massive matrix where every sector consumes other sectors' outputs. Government policy adjusts resource allocation to balance supply and demand across the entire system.
How Beijing responds to crises
When the real estate sector collapsed in two thousand twenty-two, Beijing increased micromanagement of credit flows, reversed interest rate liberalization, and tightened oversight of capital markets.
Tools of intervention
Central bank relending facilities channel low-cost loans to priority sectors. Thousands of government-run equity funds provide capital to firms supporting industrial strategies. State-owned enterprises boost stock valuations.
Why Beijing feels vindicated
Chinese companies are breaking into leading positions in autos and telecommunications, with others poised to thrive in robotics and biotechnology. This success came after a massive hit to GDP.
The core problem
Aggregate domestic demand consistently falls far short of domestic supply. Chinese planners' input-output tables cannot balance unless domestic workers buy the goods China's industries produce.
Why control does not equal growth
State intervention in markets can depress overall productivity and workers can see flat wages even when China succeeds at promoting advanced industries. Control of advanced industries does not inherently cause growth.
The hidden inefficiencies
While industrial policy has launched successful companies, there are tremendous inefficiencies and waste. The International Monetary Fund estimates industrial policy spending at up to four percent of GDP.
The employment problem
Beijing bets that superefficient manufacturing will eventually lead to higher wages and consumption. But state-funded investments in labor-saving technologies can reduce wages even as firms become more efficient.
Entrenched deflation
The focus on expanding production combined with weak consumer demand has caused the producer price index to fall for longer than it has risen over the past decade.
Deflation's cascading damage
Deflation reduces private-sector credit demand, undercuts investment incentives, crushes employment and wage expectations, and weakens consumer confidence throughout the economy, not just in specific sectors.
Beijing's modest response
Despite significant unemployment and underemployment, Beijing has responded with only modest new household subsidies and incremental investment in social services, treating these as temporary problems.
The dangerous cycle ahead
Beijing's ideological commitment to industry and technology strategy is creating a cycle producing weaker consumption, slower income growth, and greater trade friction.A fifty-four billion dollar bank recapitalization two months ago had little effect on lending.
The fiscal trap
Deflation and weak corporate profitability are eroding China's fiscal revenues, which have been flat in nominal terms since two thousand nineteen. Deflation and growing debt are corroding the financial system.
The rebalancing problem
Even if Beijing eventually recognizes the need to change strategy, China may not have the fiscal or financial space to rebalance the economy toward a more sustainable and diversified growth model.
The bottom line
China's leaders acknowledge economic imbalances but reject reform, betting that technology control and investment will restore growth despite mounting deflation and weak demand.
