China: Regime at a crossroads

New leaders facing economic and political crisis

Pasha, Socialist Action (CWI Hong Kong)

China has entered a period of crisis. Even its leaders recognise this. The new president, Xi Jinping, admitted that the current crisis could threaten the CCP-state (Chinese Communist Party) with extinction within 10 years. A senior economist recently warned in an internal government report that failure to reform could cause “a chain reaction that results in social turmoil or violent revolution”.

The new premier Li Keqiang repeatedly uses the word “pain” in his speeches on reform. The new leadership knows there must be changes, but what changes? And what is the extent of any changes likely to be?

For some years we have spoken of China’s economy heading for a crash. The economy has become addicted to credit. China’s debt crisis is worse in some respects even than in the US before the 2008 financial meltdown. Property investment now accounts for 14% of GDP, while it was only 6% in the US right before the 2008 crisis. The unregulated shadow banking sector amounts to 3.6 trillion USD, equal to the GDP of Germany.

A report from the ratings agency, Fitch, says total outstanding loans (by banks and shadow financial institutions together) rose to 200 percent of GDP at the end of 2012, from around 125 percent of GDP in 2008.

The mounting debts in the local government sector are another source of crisis. A 2010 government report put local government debt at US$1.6 trillion, around 25 percent of GDP at that time. But a former finance minister says the local government debt is now likely to exceed US$3.3 trillion.

Overcapacity is also another side of China’s debt crisis. This is where all the new credit goes: blind investment regardless of demand or the real needs of the economy or society. It is estimated that 40% of China’s industrial capacity is idle; while in certain industries the figure is closer to half. China now leads the world in the production of solar voltaic cells and wind turbines, but around two-thirds of capacity from its wind farms is wasted. The solar industry, which is mainly for export, has built up vast overcapacity; solar panels production in China is twice the size of current global demand. The Rongsheng Shipyard based in Jiangsu is the third largest shipbuilder in China, and recently applied for a government bailout – it has received no new orders this year, and laid off another 8,000 workers as a result. Industry tops warn that half China’s 1,600 shipyards may close by 2015. This may not occur, however, because local governments or banks may rescue failing companies regardless of Beijing’s orders – only to accentuate the build-up of idle capacity.

China has seen history’s biggest housing bubble, much of it lying vacant. For every apartment built for lower or middle-income buyers, ten luxury apartments are built, to be bought by speculators and left empty. A recent IMF report says 7 out of 10 cities with the world’s least affordable housing are in China.

Bad economic data is confirming an accelerating slowdown in China. All major forecasters, including the IMF most recently, have downgraded their estimates for China’s GDP growth this year. Even these underestimate the real situation – because most official GDP figures are fake. 2013 is on course for the slowest growth for 23 years – at 7.5 percent. But most economists believe the real growth rate now is under 6 percent and by some calculations China’s GDP contracted – by 0.2% – in the second (April-June) quarter.

Social extremes

Class divisions are among the most extreme in the world. China’s spending on healthcare is just 5.2% of GDP, a lower ratio than in Turkey, Tunisia and South Africa. China’s spending on education is only 3.6% of GDP, below Brazil, Egypt, and Russia. A report done by the central bank puts China’s Gini coefficient at 0.61 in 2010, almost level with South Africa, known as the world’s most unequal society. This report, also estimated the urban jobless rate in July, last year, was eight percent, nearly double the official figure.

One reason for the worsening economic crisis is the anarchic reality behind the formal appearance of planning. There are official plans but these are also fakes, like the government’s “control” of the banking system is increasingly only on paper. Local governments compete for high nominal GDP figures partly as political targets (prestige), but also to enrich local elites by channeling public investment and contracts to CCP-linked private capitalists. Provinces frequently defy Beijing, for example, when it orders them not to build new plants in overinvested industrial sectors like steel.

Beijing fails to rein in speculation

Events in June show that the debt crisis has taken a very serious turn this year. The state-owned banking system in China saw a liquidity crunch, with major banks refusing to lend to each other.

The background to this is the alarming growth of shadow banking, which accounts for 75 percent of all new loans this year. In June, the government tried to teach the banks a lesson – to force them to reduce their shadow banking activity. But this backfired!

Around US$244 billion worth of so-called wealth management products came due by the end of June. This caused panic as banks rushed to get more capital to meet these repayments. These complex and in many cases ‘subprime’ financial products, are one of the many forms of shadow banking.

The growth of shadow finance flows from the state-owned banks trying to get around government controls and hide non-performing loans. This sector acts as a ‘backdoor’ for new loans whenever government policies restrict access to official banking channels.

The central bank is trying to regain control over the banking system by refusing to increase liquidity in the system. This is because Chinese leaders see the out-of-control shadow banks and ever increasing debts as a warning of a full-blown crisis. However, this attempt to instill financial discipline failed. In the June credit crunch the banks turned even more to shadow finance to save their balance sheets and the central bank was forced to back down or risk bank collapses and a worsening of the crisis.

China has history's biggest property bubble
China has history’s biggest property bubble


Against this background, Premier Li Keqiang’s economic reform, nicknamed ‘Liconomics’, promises so-called ‘painful’ restructuring of the banks and state-owned sector. This means giving greater sway to market forces, even allowing companies to go bankrupt. The aim is to reduce unprecedented amounts of debt, and go towards more consumption and private investment.

But this is a high-risk approach. One immediate effect of ‘Liconomics’ is likely to be a further credit squeeze (raising the cost of new loans), something that could turn into a full-blown recession. It means slower GDP growth, and China’s economic slowdown can trigger a new wave of recession globally. It also means huge costs will be passed on to the Chinese people – especially workers, farmers and the poor – through inflation, higher taxes and restructuring, including more privatization.

The central government is unlikely to repeat the US$586 billion stimulus package of four years ago. Although there are ‘hidden stimulus’ measures – emergency loans to key regions – as the economy slows, while premier Li maintains he will not retreat from ‘painful’ structural adjustment. But fresh doses of credit are producing diminishing economic returns. The extra GDP growth generated by each extra yuan of loans has dropped from 0.85 to 0.15 over the last four years.

The central government is no longer really capable of controlling the development of the economy: banks and local governments continue to defy the credit restrictions set by the central government. They act as if the shadow banking sector will never burst, with shadow banking continuing to grow 60 percent compared with last year. This situation is not so different from other capitalist economies such as Europe and US in the run up to the global crisis.

It is therefore likely, perhaps in the coming one to three years, China will be forced to bailout its banking system. What will this mean? First, it means that all the bad debts of the banks will just be transferred into government debts. Huge sums of capital will need to be injected to recapitalize the banks, which will also mean attacks on the working and middle class in the form of inflation and a squeeze on welfare. One of the perspectives for China’s economy apart from the hard landing scenario is a Japanese-style stagnation, a so called ‘zombie economy’, in which a massive investment bubble deflates to hold down growth for decades.

Power struggles intensifies

Li’s reforms will also not go without challenges even from within the ruling elites. This is linked to the power struggle within the CCP, which becomes more vigorous as the crisis deepens. The CCP is sometimes called ‘one party, two coalitions’, referring to the elite princeling faction and the Youth League faction. The princelings are a closely bound elite group within China’s new property owning class, who being the descendants of Mao-era leaders have made use of their family ties and traditional control of the state-owned enterprises to accumulate massive wealth for themselves.

For the first time in its history, the CCP is led by princelings. They captured four out of seven seats in the Standing Committee of the Politburo, the highest ruling organ. The new president Xi Jinping is a top princeling, and his family’s wealth is estimated at US$376 million.

The battle lines between CCP factions are not ideological or clearly political (all sides stand for capitalist development). The princelings hope to protect their fabulous riches, through continued control of the dictatorial machinery and the role of state-owned enterprises in the economy. They act as the conservative forces of ‘crony capitalism’; while the Youth League faction rests upon ‘low born’ officials who want to limit the princelings’ power within the economy and government because they fear that this will trigger a social revolt. Groupings in both factions favour introducing more economic liberalism provided their own economic ‘fiefdoms’ are protected.

The Bo Xilai incident, culminating in his recent landmark trial, shows the sharpness of the power struggle. Being a princeling, Bo was purged and arrested by the Youth League faction led by then president Hu Jintao. Bo had grown to be too independent of Beijing, and the majority of top leaders worried that his borrowing of pseudo-Maoist rhetoric could ignite mass movements. Despite his trial and likely long prison sentence, the internal power struggles of the CCP are far from over, and the Bo Xilai incident is not resolved. Recent news reveals that the power struggle may spread to ex-member of the Politburo Standing Committee, Zhou Yongkang, Bo’s ally and a leading member of ex-President Jiang Zemin’s Shanghai Gang faction. This could mark the beginning of all-out factional warfare.

The leak of former premier Wen Jiabao’s scandal (the New York Times reported Wen’s family had amassed US$2.7 billion) served as a warning from the opposing princelings camp. This is why the scale of the anti-Bo purge was limited at that time. If it goes too far, a full-blown factional war will entail more exposures of scandals, damaging the whole CCP regime, threatening an open split and possible collapse of the state.

Xi Jinping has tried to balance between the factions, striking deals on all sides to contain the factional struggle, and to secure his own control over the state machine. But as Bo and Zhou’s cases reveal, it is getting more and more difficult to balance between the different factions.

In China, high profile anti-corruption campaigns are used as a tool in the regime’s internal power struggle. It is not really about corruption because the whole regime is corrupt.

No democracy

This directs us to the question: Will so-called economic reform pave the way for political reforms? The Xi-Li leadership seeks to win back public support with an anti-corruption campaign, promising to bring down both ‘flies’ and ‘tigers’, meaning that even senior officials can be brought to justice. This is largely for show, but could have unforeseen consequences if the factional struggle heats up further. Given the monumental scale of state corruption, Xi’s ban on open displays of luxury amount to no more than cosmetic changes. What restrains Xi from carrying out a wider crackdown, despite the popularity of this, is the risk of exposing too much of the CCP-state’s dirty secrets, even risking to destroy the whole system, including his own position.

The anti-corruption campaign is therefore a high-risk affair. It can backfire, spurring the masses into struggles against corrupt local officials. In July, 10,000 people surrounded a government building in a village in Sh’anxi province, where the local party boss was said to have misused government funds worth US$10 million.

That is why the Xi-Li leadership rejects real political reforms. They fear that even limited democratisation could cause the whole dictatorship to collapse. We do not rule out limited populist changes, such as partial reform of ‘hukou’ (the household registration system that splits all Chinese into the majority rural and minority urban citizens), or promises to expand welfare, but real democratic reforms cannot be expected from this regime. The opposite – a deepening crackdown – is taking place.

The central government has published a list of seven topics for teachers not to mention in school classrooms, including freedom of the press, democracy, and significantly also the ‘crony capitalist class’. Events in Turkey, Brazil and Egypt will have reinforced Xi’s resolve against political reform. The ousting of Mursi in Egypt prompted a stream of articles in the regime-controlled media, stressing social stability and warning against Western-style ‘one man, one vote’ democracy.

Even in Hong Kong, where the Beijing government has promised to grant universal suffrage to its citizens by 2017, its representatives repeatedly state that candidates to become chief executive must not confront the central government, and Beijing insists on a screening process of the candidates to ensure no real opposition is allowed to run in the elections. Beijing worries that if ‘democracy’ in Hong Kong gets out of control, it can trigger a revolutionary chain reaction in areas of the mainland.

Against this background, the perspectives for the CCP granting even a limited form of democracy in the rest of China are unlikely. As the saying goes, “reform is a byproduct of revolution”. When faced with a revolutionary upheaval that threatens its survival, maybe then we can see the democratization of the regime, probably as the last card.

The social contradictions in China are now even worse than in Egypt and Tunisia. The state has no real solution to its economic crisis, and China is likely to be the next ‘trouble zone’ in the global capitalist crisis, after the US and EU. Facing growing discontent, the CCP is stepping up its repression, which at some point will backfire on itself. A politically clear sighted Marxist organization, even if it is small and has to work underground, can play a crucial role in the coming crisis and revolutionary upheavals, just as our comrades in South Africa have done.