China's 'nonproductive' investment boom threatens Australian economy, expert warns
Renowned China economist Michael Pettis warns China’s debt and trade surplus is a danger for Australian real estate and commodities.
China’s debt levels, massive trade surplus and nonproductive investment binge are red flags that create significant risks for Australia’s over-reliance on real estate and commodities, world-renowned economist Michael Pettis has warned.
The China expert, who accurately predicted Chinese GDP growth would slow sharply last decade, told The Australian on the sidelines of the UBS Australasia Conference in Sydney that he was advising clients to be cautious about investing in areas such as residential real estate and Australian commodities.
His rationale is that China’s consumption levels have not been enough to deliver goals of 5 per cent GDP growth, so the country has ramped up investment instead.
However, the investment is unproductive, pushing debt levels ahead of GDP.
Mr Pettis said China’s total debt-to-GDP ratio for 2025 is expected to hit 289 per cent, according to the IMF. That would be unsustainable and lead to an unwinding of investments in countries such as Australia.
“China has run huge trade surpluses, so it has had to balance them by acquiring foreign assets,” he explained. “Historically, countries that acquire foreign assets tend to prefer to acquire them in the Anglophone economies like the US, Canada, England and Australia.
“One consequence is that foreigners have been buying heavily into Australian markets, and that’s caused asset prices to go up, including, most notoriously, real estate.
“The other more important reason is commodity prices. Because Chinese growth is so heavily dependent on investment, particularly investment in infrastructure and property, China has been a huge buyer of industrial commodities.
“The problem is that China can no longer maintain these investment levels, and has to bring them down. Now, I’m sure in Australia, you’re hoping that as Chinese demand drops, Indian demand will replace it, but that’s very unlikely.
“Eventually, when this model ends, we should see demand for industrial commodities drop very sharply, and that will affect the Australian economy.”
A key part of Mr Pettis’s economic argument is that China’s massive trade surplus – the highest in the history of the world – is based on comparatively lower wages to other countries. But that crimps domestic demand and prevents consumption from becoming a bigger part of GDP.
Investment makes up an “astonishing” 40 per cent of China’s GDP, which Mr Pettis thinks is not sustainable.
It needs stronger consumption instead to achieve more sustainable GDP, but wants to maintain its trade surplus.
“If you need 5 per cent GDP growth, which is quite high, and you’re not able to get consumption to grow more quickly, then the only way to maintain that is by keeping investment growth from slowing,” Mr Pettis said.
“The problem in China is that for well over 10 years, probably 15 years, China has been systematically overinvesting in property and infrastructure and in manufacturing. But they’re investing nonproductively in China, so debt is rising faster than the economy. So that’s the problem.”
Mr Pettis finds it difficult to put a timeline on when things will turn for the worse. The political imperative means the Chinese government and corporations will keep risking higher debt levels to maintain GDP goals.
“If you bring investment down, then GDP growth drops, which they’re politically not willing to accept yet,” he said.
“But if you don’t have infinite debt capacity, you can’t maintain that role forever.”
Until they accept lower growth, Mr Pettis, who has taught economics at Tsinghua and Peking universities, acknowledges he is missing out.
“I’ve not invested in many years because I think everything is overvalued. Eventually I’ll be right, but in the meantime, everybody else is making more money,” he said.
He has called some aspects of China right for his clients. “I’ve been telling my clients that they should buy Chinese stocks, not because the Chinese economy is going to do better, or not because profits are going up; on the contrary, they’re going down. The reason they should buy Chinese stocks is because in China, the stockmarket is really driven by the credibility of government signalling. And at the beginning of last year, it was so clear that the government urgently wanted stocks to go up that I figured that they’d do whatever it takes to drive them up.”
If eventually the debt and unproductive investment binge stops and demand for Australian commodities and real estate falls, then, Mr Pettis says, there is still some silver lining.
That will be forcing Australia back into becoming a manufacturer, which he says will help lift productivity and the overall wealth of the nation. Currently, manufacturing in Australia as a percentage of GDP is in the single digits.
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