CHAPEL HILL – As the world navigates financial and geopolitical turmoil, a key question is how China will fare in the whirlwind of volatility. 2022 has not been kind to the world’s second-largest economy, as the country navigates a collapsing property market, an uncompromising zero-COVID policy and high rates of inflation and youth unemployment.

We asked Christian LundbladSenior Associate Dean for Faculty and Research and Professor Emeritus of Finance Richard “Dick” Levin, UNC Kenan-Flagler Business School, on what this year’s downturn means for China and how the country’s COVID policies are affecting its economic situation .

Christian Lundblad, Senior Associate Dean for Faculty and Research and Richard “Dick” Levin Professor Emeritus of Finance, UNC Kenan-Flagler Business School. (Photo UNC-CH)

According to a recent World Bank forecast, growth in the rest of Asia is expected to outpace that of China for the first time in more than two decades. The OECD and the Asian Development Bank have also recently downgraded China’s growth outlook. Do you agree with these forecasts and what is your vision of Chinese growth in the long term?

China’s growth story is complicated, to be clear. There are at least three components that deserve attention. First, the good news for China is that it is now a largely bourgeois country. From 1978 to the global financial crisis, China made a truly remarkable transition up the development ladder; I say outstanding because the rate of growth is simply not reflected elsewhere in human history. However, the cost of this success is that the low hanging fruits are picked. Even though things continue to progress for China, benchmark growth rates should slowly, and if China were to eventually achieve high-income industrialization status, its rate of growth would have to face the same technological speed limits that we face in the United States and Western Europe. Thus, Chinese growth should slow down exactly because of their success. Second, despite this success, China’s economy greatly affects significant financial and labor resources. State-owned and controlled corporations and banks play too large a role in the allocation of scarce resources, compared to allocations based on compelling business ideas and market forces. The costs are real, especially considering that it is much easier to move from low income to middle income than from above middle income. Development economists have a name for it – “the middle-income trap” – and China is in real danger of getting stuck. In fact, the necessary step towards high-income status involves harsh institutional reforms from which current Chinese leaders are frankly moving away. Resource misallocation is costly (think Chinese real estate and the debt burden associated with non-performing loans), so growth also slows due to the inevitable costs of such misallocation. Third, we have the very unusual moment of China’s zero COVID policy. There are very real economic costs associated with shutting down critical components of its economy, and this approach creates major headwinds.

How has China’s zero COVID policy affected its economic outlook?

China’s zero COVID approach is, quite simply, a mistake. Nobody claims that a containment is effective in limiting the spread of the virus; however, a containment policy entails enormous costs in other dimensions. The economic implications alone are considerable. While it’s hard to say for sure how much this has reduced China’s economic growth, one can guess that it’s at least several percentage points of GDP, if not much more. Instead, policymakers should internalize these uncomfortable trade-offs, and focusing solely on virus transmission is only an incomplete characterization of the problem. Additionally, from a purely human perspective (think beyond GDP points), one must weigh the additional implications of a lockdown for mental health, anxiety, depression, student educational attainment , And much more. When the lockdown debate raged across the United States in 2020, we at the Kenan Institute wrote on the need for a more holistic approach to internalizing these trade-offs.

However, for a moment, step back in time. As the rest of the world battled mightily against the virus in 2020, China’s adamant response looked like a real winner. However, thanks to remarkable medical advances that have allowed us to reconnect significantly with each other, global economic activity has largely rebounded. I would say we are approaching what post-COVID normal will be. However, despite the successes outside of China, its continued isolation has instead produced a situation in which that earlier short-term success has been replaced by a very dire reality. They are hesitant to commit to the medical advances that have driven the rest of the world forward and have not learned from the evolving approaches we have developed to navigate these competing trade-offs with better and more thoughtful holistic. For example, they’ve had little penetration of viruses or mRNA vaccines — and frankly, both are needed. In a way, everything that we have had no choice but to overcome over the past two years is yet to come for China. China’s close attention to the transmission of the virus has left it stuck in a sort of 2020 stasis chamber. In sum, the enormous economic costs to the Chinese people bear little relation to what has yet to happen. So why make this mistake? The reality is that the approach is driven more by political discourse. The current leadership has attached its legitimacy to the transmission of COVID in a way that is not sustainable in the long term. I can’t predict how this will play out, but I do warn that the mixing of political power with what should be sober politics is unfortunate.

Finally, I would argue that China’s self-isolation has only exacerbated the growing fault lines that exist between it and the rest of the world. On an individual level, we simply don’t talk to each other, learn from each other’s challenges, or see each other’s humanity. Things like global travel and economic activity, and student engagement are important forces that engender understanding, even if they don’t enable collaboration or conflict resolution. At the very least, I fear economic fragmentation – de-globalization is a risk that could prove economically costly. Every company or investor engaged in significant global activity must have a clear articulation of what global fragmentation means to them. Worse, at a much higher altitude we face a very dangerous situation where a misunderstanding could lead to a miscalculation.

I firmly believe that China and the rest of the world should compete like crazy in the economic arena; competition sharpens the mind and fosters innovation, which improves our situation. We are all much better placed to compete in this arena than on other much more dangerous battlefields.

(C) UNC-CH