Can the Developed World Survive a Chinese Economic Crisis?

Despite the fact that the Chinese government has reported that the Chinese economy expanded by a strong 7.0% year-on-year in the first half of this year, most economists believe that Chinese economic growth was actually significantly less during that period, particularly in the early part of the year.  Moreover, a number of developments in recent weeks, including the sharp fall in share prices in China and the devaluation of the yuan, indicate that both investors and the Chinese government believe that the health of the Chinese economy is much worse than was previously believed.  This negative outlook is reinforced by the poor results from China’s manufacturing and real estate sectors in recent months.  As a result, the outlook for exports (the previous driver of Chinese economic growth) and domestic consumption (the hoped-for future driver of growth in China) have both deteriorated of late.  This is raising the question, are the developed world’s economies in a position to withstand a sharp decline in Chinese economic growth.

The developed economies that would suffer the greatest losses from a sharp downturn for the Chinese economy are those of the Asia-Pacific region.  As we have seen, the Japanese economy managed to expand by just 0.7% year-on-year in the second quarter of 2015, due in large part to a decline in exports to China.  With nearly 25% of all Japanese exports destined for the Chinese market, a sharper downturn in demand in China will certainly push Japan into a deeper recession.  Two of the world’s most successful developed economies, Australia and South Korea, are also heavily exposed to the whims of the Chinese market, with China accounting for more than 30% of the total exports from both countries.  Australia has already suffered from the impact of the downturn in demand for natural resources such as iron ore and coal in China, while South Korea faces the prospect of a decline in Chinese demand for its manufactured goods.  In total, no region is more exposed to the risk of a sharp Chinese downturn that the Asia-Pacific region. 

Another developed region that faces the prospect of lower growth rates as a result of a sharper-than-expected decline in Chinese economic growth is Europe.  At present, 10% of all exports of goods from the European Union are destined for China and this number has been rising sharply in recent years.  Moreover, the region’s more successful exporting economies (Germany, Sweden, etc.) have grown increasingly dependent upon exports to China to generate growth for their economies.  As Europe’s longer-term domestic demand levels are forecast to be relatively stagnant, high-growth export markets such as China are the leading opportunity for economic growth in these countries.  Therefore, a decline in Chinese demand levels would likely result in lower growth rates for what had been some of the European Union’s most-successful economies in recent years.

Finally, North America’s two leading developed economies (the United States and Canada) have also seen their exports to China rise sharply in recent years, with nearly 8% of North America’s exports destined for China.  For the United States, a sharp downturn in export demand in China is unlikely to play a major role in directly impacting economic growth rates in the US.  However, indirectly, this downturn in China will an impact in other ways, such as the impact of that a major devaluation of the yuan would have on US export competitiveness.  Meanwhile, Canada’s economy has already by impacted by lower demand levels for Canadian natural resources in China, with Canada’s economy already in the midst of a significant slowdown that is, in part, the result of the recent fall in export growth.

Altogether, the developed world appears to be in a poor position to deal with a major economic slowdown for the Chinese economy in the near future.  Since the financial crisis that began in 2008, the world’s leading developed economies have used all of the resources at their disposal to generate higher rates of economic growth and this has resulted in what have been relatively anemic rates of growth in recent years.  While the United States economy has managed to grow at a respectable level over the past two years, growth rates in Europe remain relatively low, and Japan’s stimulus-driven recovery has already come and gone.  Should the Chinese economy fall into a deep slump in the months ahead, it is the developed world’s export-driven economies that will suffer the most.  Economies such as Japan, South Korea and Australia would suffer the greatest impact from a sharp decline in export demand in China, but economies further afield in Europe and North America would also be faced with lower rates of economic growth should China’s economic downturn worsen.