China’s economy is in a terrible funk – just how Xi Jinping likes it

The West over the past four decades developed a Pavlovian response to any hint of economic slowdown in China. Just as Ivan Pavlov’s dogs would start salivating when he rang the bell to indicate feeding time, Western investors and analysts would react to news of an imminent Chinese slowdown by excitedly preparing for massive government stimulus.

Alas, their conditioning did not prepare them for China’s new reality. They’ve been left salivating but disappointed time and again over the past couple of years.

Illustration: Dionne GainCredit:

Most recently at this month’s National People’s Congress, as investors watched breathlessly as Premier Li Qiang read out his annual government work report. But he announced no major new economic stimulus, so prices on the Hong Kong sharemarket dropped by 2.6 per cent.

Rather than the powerful post-COVID rebound the world had hoped for, the benchmark sharemarket indices in Hong Kong and Shanghai both lost more than 30 per cent of their value in 2021-23.

“It’s a super difficult time,” fund manager Vivian Lin Thurston of William Blair Investment Management told the South China Morning Post. “China is the only market in the world that’s really struggling.”

Which is why the West keeps expecting Beijing to splurge government funds to fuel a new boom. The West, the whole world, has made a lot of money from China since Mao’s era of Marxist-Leninist ideology ended and Deng Xiaoping began China’s “reform and opening” era under the slogan “to get rich is glorious”.

Chinese Premier Li Qiang with President Xi Jinping at National People’s Congress this month.Credit: AP

But most foreigners have failed to understand that era is over. They assume that strong economic growth is inherently desirable. And they grew accustomed to a Chinese leadership that felt the same way. But Xi Jinping styles himself after Mao rather than Deng. He values control above growth. The game has changed.

One clear indicator of the changed priority: in the past year, China’s pro-reform central bank has been downgraded while the hawkish spy agency – the Ministry of State Security – has been promoted in the Beijing power hierarchy.

Xi has imposed restrictive measures on three of the country’s main growth engines.

First, China’s real estate market is mired in deep difficulty and the country’s biggest property developers are illiquid or insolvent. This is a huge drag on growth and a bitter blow for middle-class Chinese who regarded real estate as their pathway to wealth. But the market didn’t collapse spontaneously. Xi crashed it, very deliberately. “Homes are for living, not speculation,” he liked to say.

Second, the country’s biggest billionaire entrepreneurs were chastised and investigated. Some were jailed. Purportedly they were punished for corruption but Xi was curbing their capitalist excesses in pursuit of his doctrine of “common prosperity”. Parts of the private sector faced abrupt new restrictions while state-owned corporations expanded, shrinking the market economy while enlarging the state.

Third, many foreign firms faced intensified regulatory inspections. These are all results of Xi’s urge for control.

The decades of annual growth of 9 per cent are over. And Xi Jinping likes it that way. Beijing’s growth target for this year is 5 per cent. Even this is likely to prove ambitious. And certainly a disappointment for the investors and exporters who still hope for a return to the pre-Xi era.

But what’s Xi’s purpose? “Remember Xi’s long-term objective,” say a pair of analysts for Garnaut Global, an advisory firm for global asset managers, run by the Australian China expert John Garnaut and business partner Matt Pottinger, formerly US deputy national security adviser.

“Even as Beijing alienates investors, Xi Jinping’s ultimate objective remains unchanged – to build an economy fit to survive and win in the new era of Cold War 2.0,” write analysts Sam George and Matthew Johnson in a client note this month. “That involves enduring Ukraine-type scenarios and eventually outmuscling the US, China’s apex competitor, in the contest for Taiwan.”

In other words, Xi is preparing China for war, the “extreme circumstances” of which he has repeatedly warned his people. For that, he wants to make sure all parts of the economy are geared to respond to centralised control. And to ensure that investment and productive capacity are directed to the country’s war needs.

“For Xi, national strength emerges from technology, manufacturing, and the strategic dominance of Chinese firms in the global industrial layout,” explain George and Johnson.

Xi has a new catchcry – he wants emphasis on “new productive forces”. The Garnaut Global analysts elaborate: “He seeks to wean China from its dependency on property by substituting in ‘high quality’ growth from advanced manufacturing – with the dual benefit of advancing Xi’s vision for national strength.”

Foreign investors can still make money in China, they argue. But it’s going to be different. The real estate-centric China is no longer. “Investors stand to gain from carefully chosen sectoral bets on China’s ‘real economy’.” They nominate the pre-existing priority industries of solar panels, electric vehicles and lithium batteries, but also the new ones. These include innovative drugs, hydrogen energy, quantum technology, the so-called “low-altitude economy” of manned and unmanned aircraft flying below 1000 metres, commercial aerospace and new materials.

In Sydney last week, China’s Foreign Affairs Minister Wang Yi tried to argue that China was still thrumming along on the same growth engine it’s enjoyed for decades. Wang emphasised that China was still only 55 per cent urbanised and that another 20 per cent of the population would move to the cities, driving rapid economic growth in the process, according to Beijing’s reliable friend Paul Keating, who issued a statement after their meeting.

This is a heroic claim. China’s population is shrinking and it still has an overhang of millions of unoccupied apartments. Where are all the rural workers clamouring to fill them?

Says John Garnaut: “The economy is on a structurally low growth trajectory, partly by design. He’s battening down hatches not worrying about household consumption growth.”

Paul Keating and Chinese Foreign Minister Wang Yi at the Chinese consulate in Sydney last Thursday.

Indeed, if we listen to what Xi actually says instead of acting on Pavlovian conditioning from a past era, we don’t hear him promising more inducements to spend on housing, beverages or whitegoods. Instead, he offers China’s people “happiness through struggle”.

Not what Western businesspeople want to hear.

Peter Hartcher is international editor.

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