By John Gallagher,
International Business Assistant Editor
Global markets have been battered thus far in 2016. Sell-offs in global equity markets and high-yield debt markets have been triggered by unsustainably low oil prices and concerns over growth in China. China’s economy has experienced double digit growth for the last 30 years and has been the main propeller for growth in the global economy. They have been a supplier of demand for commodity producing countries and multinational corporations who export goods to China. Last year, China’s economy grew at 6.9 percent, which many economists think could be artificially high; the Chinese government is known for their lack of transparency.
The economic slowdown to just under 7 percent was expected. Economists have been saying all year that China’s economy was slowing down. That raises the question; why has the Shanghai Composite Index slumped over 20 percent in the past month if there is no new data. Kenneth Kim, Associate Economist at RBC Capital Markets and Contributor at Forbes, attributes the crash in China’s equity markets to the circuit breakers implemented by China’s central bank that halt trading for the day if markets fall by a certain percentage. This creates uneasiness and provokes irrationality by investors who rush to sell their shares at the opening bell before the markets close for the day. A volatile market place could repel future foreign investment.
China’s economy is still growing at 7 percent, the U.S economy grows at around 2 percent, what’s the big deal? The issue is that China has been the main driver behind global growth and its heavy industry and construction sectors have provided demand to commodity exporters around the world. The ultra-low commodity prices are triggered by a supply glut, as well as (and more importantly) a lack of demand. With China buying less and less raw materials, other emerging economies, such as oil rich countries including Brazil, Russia, Saudi Arabia, and Iran, are suffering. Low oil prices are putting some of the weaker, less capitalized commodity exporters at extreme risk of bankruptcy. $30 oil presents huge risks of default on debt taken to finance energy projects with the assumption that $100 oil was here to stay.
HSBC’s weekly “Week in China” report, reports that at China’s Central Economic Work Conference last month, the government made job cuts from companies suffering from overcapacity its number one priority in 2016. Many investments were made in China’s manufacturing sector last decade when investors were under the impression that China would continue its double-digit growth. When growth began to slow, many factories were too large to be profitable at output levels that matched demand. The lack of demand coupled with a sharp increase in labor costs in China have sent manufacturing gigs to other countries in the region such as Vietnam.
Low commodity prices signal a lack of demand from the world’s second largest economy. Amid slowdowns in manufacturing and construction, China’s economy is beginning to morph into a service driven economy with services accounting for over 50 percent of GDP this year. China isn’t facing a recession, but they won’t be the same steam engine pushing global growth forward that they have been for the past 30 years.
A version of this article appeared in the Tuesday, January 26th print edition.
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