China downturn threatens global economy

It's official -- one of the global economy's main engines is revving down, according to the Chinese government:

"We believe China is nearing the end of the period of high economic growth," said Yu Bin, director general for the ruling State Council's research center. "What we need is moderate and reasonable economic growth."

"China had been growing at high speed for three decades," Yu said. But now, he said, China's fundamentals are changing, including demography and the demand and supply of labor.

The People's Republic isn't struggling for breath, like the U.S., let alone confronting its economic mortality, like the eurozone. But the seemingly unstoppable run of double-digit growth (propelled in part by Beijing's currency manipulation) is over. Chinese government officials expect GDP, which has been ticking down all year and which in the third quarter declined to 9.1 percent, to fall below 9 percent in 2012. Over the longer term, China forecasts 7-8 percent growth over the next five years.

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Signs of a downturn in China have been unmistakable for some time. Manufacturing activity is down, hurt by sagging demand in Europe and the U.S. Local governments are suspending land sales. That reduces municipal tax revenue and public spending, especially in key key commercial centers like Guangzhou and Shanghai. As the country's business conditions cool, foreign investment is waning for the first time in more than two years. Chinese stocks are also wobbling.

Some of these developments are healthy. With the average home price in China some 9 times people's average annual income, for instance, the country's real estate bubble needs to burst. The government is now forcing down property prices to head off a potentially more damaging crash.

A leveraged buyout boom is also petering out. That, too, could ease China's landing, with the recent private equity surge another sign of economic froth. The pullback in such deals shows that buyout investors in China are also girding for an economic slowdown.

Having tapped the monetary brakes earlier this year in order to control inflation, which has fallen in recent months, Chinese policymakers are now shifting their economic priorities to focus on building sustainable growth. To balance the country's ebbing private demand, China is boosting bank lending and public spending. Western economies may have lost faith in the merits of Keynesian fiscal stimulus, in other words, but Beijing hasn't. Said one financial markets expert:

"In their view, expanding China's domestic demand is the best way to cope with a fast changing international and domestic environment," Qu Hongbin, co-head of Asian Economics Research at HSBC said in a note to clients. "This this end, spending needs to be targeted towards the improvement of social security and people's welfare, development in China's service sectors, and expanding the share of national income for the country's middle-income group."

What does China's dip mean for the rest of the world in 2012? Trouble. As Europe slides toward recession, the U.S. economy struggling to gear up and other formerly buoyant developing countries cooling off, the global economy could soon find itself adrift. Paul Krugman writes:

After all, I remember very well getting similar assurances about Japan in the 1980s, where the brilliant bureaucrats at the Ministry of Finance supposedly had everything under control. And later, there were assurances that America would never, ever, repeat the mistakes that led to Japan's lost decade -- when we are, in reality, doing even worse than Japan did....

I hope that I'm being needlessly alarmist here. But it's impossible not to be worried: China's story just sounds too much like the crack-ups we've already seen elsewhere. And a world economy already suffering from the mess in Europe really, really doesn't need a new epicenter of crisis.

Risk is everywhere in the world today, reward in diminishing supply. A comet strike, such as Greece defaulting on its debt and exiting the eurozone, could push what is for now a widening economic contraction across the globe into far more dangerous terrain.