China’s Just Too Hot

China’s struggle to slow -- without crashing -- its overheated economy is of vital interest well beyond the Great Wall. The economic boom is evident in the hundreds of construction cranes towering over Shanghai and in commodity prices worldwide that have been driven higher by China’s appetite for imported oil, steel and cement. China’s eye-popping feat of doubling exports in recent years is evident in the millions of jobs being created there, as well as the flood of cheap but attractive goods filling ships that jam the ports of Los Angeles and Long Beach.

The 64,000-yuan question is whether China’s central bankers will be able to throttle back torrid growth or whether an economy fueled by cheap money flowing from state-owned and black-market banks will crash. If the latter happens, the repercussions will be felt worldwide as China’s demand for imports shrivels and the resulting gluts push commodity prices down.

At the heart of Beijing’s challenge is restructuring large, state-owned banks that for decades ignored basic rules. At least 20% of outstanding loans held by the big banks are in default. At the same time, an underground banking system continues to pump the equivalent of billions of dollars into the economy. The result is a tough balancing act, said James Barth, a Milken Institute senior fellow who traveled to China to advise its central bankers: “Cut off too much credit, and the economy slows too much and you’ve got social unrest.”

It isn’t all gloom and doom. Inflation hasn’t been the problem many had feared. Direct foreign investment in manufacturing plants and other long-term projects continues and, in a bid to cool the economy, central bankers on Oct. 28 nudged up interest rates for the first time in nine years. Beijing also is developing NAFTA-like trade relationships with members of the Assn. of Southeast Asian Nations. Japan now ships $80 billion worth of goods to China annually, up from $20 billion in 1999.


The United States also stands to benefit if China can make an orderly transition into the global economy. General Motors hopes to sell more cars in the world’s most populous country. U.S. financial institutions hope to enter China’s burgeoning banking services market, and the National Basketball Assn., which last month played exhibition games before packed houses in Beijing and Shanghai, hopes to double the number of stores selling league merchandise to Chinese fans of Houston Rocket star Yao Ming.

For all that to happen, China must carefully slow an economy that continues to run at a fast-break pace. The higher interest rates should help. Beijing also has signaled its willingness to uncouple the yuan from the dollar, a move that could further cool the economy, as well as ease trade tensions with the U.S. But to use another NBA analogy, China’s bid for a soft economic landing is anything but a slam dunk.