Can Donald Trump ruin China's economy

Trump is in the process of finally destroying China's fantasy world - and without any tariffs

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BI

How is China doing? Apparently not that bad, one might think. After all, the Purchasing Managers Index of the second largest economy recovered again last month, and quite unexpectedly. That is not insignificant. After all, the index is an important and reliable leading indicator for a country's economic performance. Accordingly, the stock exchanges reacted positively at the beginning of the week. No matter whether Shanghai, New York or Frankfurt: All major stock indices soared up on Monday. Perhaps, so the hope is, the worst will be over again. Perhaps the economic locomotive of China will go ahead at full speed again. Probably wrongly hoped.

Because the Chinese economy has by no means grown again on its own. Rather, it was political decision-makers who turned the screw. Debt can now be made easier again in China. That should keep the economy going. But does this work out in the long term? Doubtful. Because there are homemade problems. And then there is the US and Donald Trump.

China has problems with shadow banks

China's economists are likely to bet that looser credit is worth the risk to prop up the economy. In fact, Chinese companies have recently borrowed more money than they have since mid-2013, according to a survey by the market research institute China Beige Book.

As a reminder, it was the harsher crackdown by the Chinese authorities against the shadow banking sector that noticeably slowed economic growth in the People's Republic over the past year. No wonder. After all, this sector spent up to 40 percent of all new loans in the middle. So it should come as no surprise that the China Beige Book cites one reason above all for the upswing in the Chinese economy: the looser Chinese credit policy.

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China's turnaround is tantamount to an admission: If the People's Republic takes stricter credit rules seriously, it pays for it with significantly lower growth. However, the leadership in Beijing does not want to risk that. At least not that fast.

Of course, China cannot distribute loans indefinitely. The government still fears bubbles, especially in the real estate sector. The more urgent question is how long the People's Republic can maintain its credit policy, how long it can lend money so freely. At the latest, a possible trade deal between the USA and China comes into play.

China-US deal could have dire consequences for Beijing

Admittedly, it is still unclear when and whether a deal will come between the two economic giants. After all, both sides have expressed increasing optimism in the past few days. But no matter which tariffs remain or fall, one thing should be certain: China will have to buy more US products. In the worst case scenario, China could enter unfamiliar territory: it could go from being a net creditor to a net debtor. So far, it has been the Americans who have been introducing heavy balance sheet deficits in China trade year after year. (Here you can read why financial experts think this scenario is likely.)

Trade deficits in and of themselves are not that bad, as the US has shown. According to the British bank Barclays, America currently has foreign liabilities amounting to 175 percent of its own economic output and is still growing solidly every year. This works because the US has the world's reserve currency in the dollar and the world is more than ready to purchase dollars. Because the world is also buying more US assets, everything balances out again.

However, China is not in such a comfortable position. So far, it cannot be assumed that foreign investors would buy up Chinese assets in a comparable way. That could mean turbulent times for the yuan. In the past, an unstable yuan has often been accompanied by more turbulent markets and greater instability for China and the world at large.

World economy is losing power

It is to be feared that China is living in a fantasy world that the government believes that easy credit is the panacea. The fact is: economic output in the rest of the world is falling significantly. Last but not least, the export nation Germany felt this too. The Federal Government's Advisory Council recently halved its growth forecast for 2019: to 0.8 percent.

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It would be a miracle if the world export champion China could cut itself off completely from this trend. Especially since you have the Trump administration on your neck. It is more likely that the US president will destroy the Chinese fantasy world. The sobering thing for Beijing is that Trump doesn't even need tariffs for this. A new trade agreement could be enough.

This text was translated, shortened and adapted into German by Andreas Baumer. You can find the US Extended Version here.