Luxury giant LVMH, fashion retailer Gucci, H&M, and spirits maker Pernod Ricard have all posted sales decline pointing towards continuing pressure from weak Chinese spending. The second largest economy in the world representing 20% of global GDP is experiencing a massive slowdown.
Through 2024 the Chinese economy has struggled to reach its 5% growth target. The cycle has really been affected adversely by a tight monetary policy resting on the Chinese goal of maintaining a firm or at least stable yuan against the US dollar. This is tied to China’s longer-term ambitions of trying to create a rival for the US currency, certainly within the Asian region, maybe ultimately even globally. China perceives that it can extract a lot of soft power by having a robust currency and this has been one of its geopolitical goals. However, with the US dollar strengthening, the Chinese have struggled to maintain the value of the yuan, therefore needing to tighten monetary policy.
The reason why this is significant lies in the manner in which economies hit by the COVID-19 pandemic two to three years ago recovered. The West accomplished this through an easy fiscal and monetary policy, with a short-term legacy of inflation that policymakers are currently fighting. But what China faced was a tight monetary policy that was put in place by the People's Bank that was trying to maintain a firm yuan against the US dollar. There is speculation that China is considering allowing the yuan to weaken in 2025 to mitigate the effects of higher trade tariffs that are expected with the incoming Trump 2.0 administration.
What China is currently undergoing is what economists call ‘the middle-income trap’ - reaching a certain level of income per head but finding it difficult to grow further.
Economic growth largely depends on two features, one is more capital spending, particularly on infrastructure and the other is export growth. But for China, relentlessly building bridges or roads to nowhere has created a lot of debt, saddling the economy with interest expense, and ultimately causing a drag on economic growth. Chinese exports are strong while imports are weak, but with tariffs and trade protectionism emerging, it's difficult for China to maintain market share and grow its exports.
China's real estate sector, unlike any other country, is quasi-fiscal with an outsized role in the Chinese economy. Local governments rely on land sales and property development to boost their fiscal cover impacting local government revenues, financial sector stability, household wealth, and employment. Real estate investment has plummeted 26.7% from its peak in June 2021. While in the past, this accelerated the speed of development, the aftermath is very much concomitant with the side effects of debt.
At its annual Central Economic Work Conference held in Beijing from December 11 to 12, China's top leadership set economic priorities for the upcoming year; in the main urging efforts to vigorously boost consumption, improve investment efficiency and expand domestic demand on all fronts. Key takeaways include raising the budget deficit to 4% of gross domestic product (GDP) next year, to implement more proactive fiscal policies, and increasing the issuance of ultra-long special treasury bonds and local government special-purpose bonds.
The latest endowments including introducing 3 trillion yuan ($411 billion) worth of special treasury bonds next year, are focusing on consumer demand and fiscal impasse, a different approach to its traditional concentration on infrastructure and export-driven growth. However, it remains to be seen how much of the stimulus will trickle into the real economy so that it may impact consumption because a lot of these funds are used to be injected into the financial system or reduce local government debt.
The total size of China’s stimulus package in 2024 was a colossal 7.5 trillion yuan (US$1.07 trillion). Yet according to the World Bank, China's economic slowdown is projected to intensify with the growth rate slowing down from 4.8% in 2024 to 4.3% in 2025. The IMF predicts growth in China to further slow down to 3.3% by 2029.
Chinese overproduction, in steel, semiconductors and green technologies has prompted widespread trade complaints and led to a rise in geopolitical tensions. Donald Trump will become the 47th President of the United States on January 20, 2025, and he has announced plans to impose additional tariffs on China. This is likely to impact China’s growth projections, possibly undoing all the stimulus. The corresponding consideration then is, should China's growth decline to the projected 4.3%, would associated benefits for developing nations diminish, or would it prove to be a silver lining by stabilizing commodity prices and allowing other countries to fill gaps in global supply chains.
Vaishali Basu Sharma is a security and economic affairs analyst.
