China must cut excessive production capacity

China’s real-term gross domestic product grew 6.7 per cent in the April-June quarter when compared to the same period last year. The growth rate levelled off from the previous quarter, and a downtrend was halted for the first time in four quarters. However, it still marked a seven-year low since the shock that resulted from the collapse of US investment bank Lehman Brothers.

Given the slackening of investments and exports, it has become clear that China’s “world’s factory” model, used as a driving force for high growth, has reached its limit.

The Chinese administration of President Xi Jinping is pursuing a shift from investment-centred high growth to a “new normal” state of consumption-led stable growth. But consumption, which is essential, lacks the power to supplement investments and exports. The switch to expanded growth will require the overproduction of steel and coal to be rectified. However, efforts in this regard are struggling.

China’s crude steel production has ballooned to about 800 million tonnes a year due to a large-scale stimulus package adopted in the aftermath of the collapse of Lehman Brothers. China’s share of the global market has swelled to half, causing steel prices to fall.

The excessive capacities of steel and other industries was mentioned as “a global issue” in the statement issued after a meeting of trade ministers from the Group of 20 major economies, held this month in Shanghai.

China has made moves to reduce crude steel output by suspending operations at facilities, including its old blast furnaces. However, this is akin to pouring water on a hot stone. If restructuring is pushed ahead, it is estimated that 1.8 million workers will be rendered jobless in the steelmaking and coal-mining industries alone. Due to opposition from local governments, which are concerned about employment, curtailing production facilities has progressed little. It is necessary to alter the industrial structure by promoting the service and other industries, thereby making it possible for workers who lose their jobs due to structural reforms to be accepted elsewhere.

Some state-owned businesses and firms related to local governments have, in effect, gone bust, but survive thanks to public subsidies. These “zombie companies” have become a serious issue.

It is worrying that non-performing loans – made by financial institutions to unprofitable businesses and in connection to investments in excessive facilities and real estate – have become bloated. According to China’s official statistics, outstanding non-performing bank loans stand at slightly more than 1 trillion yuan (Bt5.2 trillion). It is believed the actual figure is several times larger.

The liquidation of zombie companies is indispensable to reforming China’s state-owned firms by shifting their central businesses from the public to private sector. However, if the issue of bad debts surfaces, it could trigger financial unrest.

Changes in the Chinese economy, and the issue of Britain’s exit from the European Union, pose a risk to the global economy. How can China maintain the sensitive balance between reform and business?

It is essential for the many Japanese firms that conduct business transactions with China to take responsive measures while closely monitoring how the matter evolves.