Wang: When you compare the demographics, the real estate market, the financial risks, yes there are similarities to Japan, where economic growth stagnated for three decades after its equity and real estate bubbles burst. The chance of a Japan-style stagnation is elevated in China.
Though some recent high-profile developer defaults are worrisome, we’d highlight a key difference between China and Japan. China has a very strong central government that will do what it takes to avoid a Minsky moment.1 It will likely be a three-step process: One, China maintains strict capital controls; two, the central bank continues to inject liquidity into banks, most of which are state-owned; and three, banks continue to roll over companies’ debt, minimizing the prospect of a systemic crisis.
Feng: China has been proactive in containing potential spillover, helping to ensure near-term stability. But this could come at the expense of efficiency. Some property developers may exist only to continue to pay interest on their debt. This would weigh on productivity growth and broad economic performance, raising the risk of stagnation in the long term. The property sector will likely remain a drag on the economy in the medium term, rather than the growth engine it once was.
Wang: I should add that there is another big difference from Japan. China still has a huge domestic market, notwithstanding what’s going on with real estate. Foreign direct investment did plunge to a 26-year low in the second quarter of this year, but companies from Europe and some emerging market countries are still investing because they see untapped opportunities, particularly on the consumption and services side. 2