Is China’s growth unsustainable?

CHINA’S booming economic growth has been an omnipresent financial reality for the last two decades. But a new analysis suggests the steamrolling dragon may finally be running out of road.

The report by international research company Edison Investment Research splashes some cold water on the excitement surrounding China’s rapid development and the rush to invest in this seemingly unstoppable economic force. Edison says if China’s radical expansion reminds you of a bubble, there’s a good reason.

The bubble perspective is based on recent developments in China’s growth plan to a more export and investment-led model. From a macro standpoint, the concern is based on the rising investment share of China’s GDP growth. If serious cracks in the Chinese growth model become widely recognised, powerful drivers of world growth (including inflated commodity prices) are likely to suffer.

China’s 10% per annum GDP growth rate has slowed to a more modest 7% in recent years. If the giant country’s struggling trade partners disrupt its export and investment-heavy economic model, the 7% growth rate could sputter to 3-4% per annum. As Edison puts it, “Mr 10% has left the building.”

The report points to China’s housing market as a major question mark in the future of the nation’s economic boom. Within China, almost all the indications of a housing bubble are present. The most striking signs of this are the absurdly unaffordable rates for urban housing and the disconnect between construction momentum and public demand.

Global real estate company Savills found Beijing property in 2010 cost 18 times more than the average Beijing household income. Lesser Chinese cities follow suit with housing prices more than 10 times the local household incomes. Another concern is urban population growth in China has been drastically outpaced by development. A compound residential construction rate of more than 13% dwarfs the population growth which has been curbed by the “one-child” policy to only 4% in the cities.

Edison notes recent reductions in residential transaction volumes and the tightening of credit have helped to cool the Chinese housing and construction markets over the past 18 months, allowing a little air to seep out of the bubble. Debt statistics in this market may also indicate that property investors in China can expect a gradual slowing process rather than an abrupt crash.

Residential construction and other investment activity have led to strong demand for raw materials. China currently accounts for 60% of the world’s seaborne iron ore market and has shown explosive demand for other heavy commodities. The question is, is this growth in demand realistically sustainable?

As the construction industry is the key end-user of iron, any floundering in the property market is likely to have ramifications on the commodities sector as well. Research in the report suggests strong Chinese growth with ample financial support for commodity speculation is not a long-term certainty.

Edison believes a retreat in commodity prices would be highly beneficial to western nations as they would experience a potent economic stimulus in the form of higher real incomes. The company advises that long-term investors are under no pressure to take risks and are by no means short of rewarding opportunities outside of China.