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China slowdown could spur global recession

(MoneyWatch) Evidence is piling up that China is suffering a major economic slowdown, as growth flags in the country's real estate, construction, steel, and other sectors. That is expected to have a significant impact the U.S. and global economies.

China's exports grew just 6.8 percent in January and February, compared with the first two months of 2011. That's down sharply from the 14.2 percent growth in the final quarter of 2011. This is important for two reasons. First, as the world's second-largest economy China has been a major driver of growth since the financial meltdown began in 2008. Second, it means that the planet's biggest manufacturer is running out of orders to fill.

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Before the financial crisis, China's economic impact was mostly in manufacturing consumer goods and its demand for raw materials to make those products. In addition to exporting goods, it also became an exporter of money. As financial pundit Satyajit Das writes:

Chinese savings and foreign exchange reserves (totaling over $3.2 trillion) were a major source of capital for financing developed countries, especially governments. China exported savings of around $400 billion each year, helping reduce interest rates in the US by as much as [1 percent per year].

Since the crisis, China has taken on a much larger role. Along with Brazil, India, and Russia (collectively known as the BRIC countries), China has been a main engine of global economic growth and a buffer against the global economy falling back into recession. China's part in this was fueled by the government pouring money into its economy through loans to local governments and to the nation's largest banks, many of which are government controlled.

Das says:

Around 90 percent of this lending was directed towards investment in building, plant, machinery and infrastructure by State Owned Enterprises. In 2010, China allocated over $2.6 trillion to investment expenditure -- the highest proportion of GDP of any major economy in the world. According to the World Bank, almost all of China's growth since 2008 has come from "government influenced expenditure."

Much of this money went to assets that are of dubious value and created a massive version of the U.S. real estate bubble. Because China is the world's largest creditor, the bursting of that bubble will play out differently than in the U.S. or other developed economies. For one thing, Beijing doesn't have to borrow money to pay off debts. However, it also will have less money available for buying less debt from other nations, likely making it harder to finance government debt.

The good news for the U.S. is that China's slowdown means less demand for many commodities, including oil. That should result in lower gas prices. Unfortunately, Chinese demand for American natural gas also is likely to decrease. The People's Republic also will have less need for other U.S. exports, such as heavy machinery and business services.

Ultimately, a slowdown in China's economy is worrisome for the U.S. because it would contribute to the broader decline in demand around the world. That could trigger a global recession, undermining the American economy just as it starts to recover. 

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