Economic growth change is the 'new normal'

Two issues concerning the "new normal" state of the Chinese economy deserve special attention. First, why is a mega policy stimulus not needed? Second, what will be the driving force for structural transformation of the economy?

Three reasons explain why a large stimulus is not necessary.

Despite the slowing of the economy, unemployment is not a major concern in China today. Official statistics show the latest monthly employment rate is improving. Had GDP not grown around 7.5 percent before 2007, unemployment would have been much more serious. Now China doesn't need to create so many jobs as before, because the working-age population is shrinking, and China's industrial structure is changing from one dominated by heavy chemical and manufacturing industries to one dominated by the service sector. Labor-intensive service industries create more jobs than capital-intensive heavy industries.

The Chinese economy's leverage ratio has been rising rapidly since 2009. China's total debt-to-GDP ratio, or its M2/GDP ratio is lower than those of many developed countries, but is higher than those of most developing countries. A high leverage ratio tends to increase financial risks. A high leverage ratio is a problem especially with local government financing vehicles and in the real estate market. The room available to increase the leverage ratio is much smaller than it was before 2008.

The government's debt outlook will face upward pressures in the next few decades, given the pension financing gap, the rise in health care costs and the expenditure associated with cleaning up the environment. Experience shows that a fast increase in the financial leverage ratio often ends up in a form of a higher government debt later. Given that other factors will likely push the government debt/GDP ratio closer to its limit, the room to continue to increase the leverage ratio is limited.

Another noteworthy point of the new normal state is the structural transformation of the economy. Historically, people look to the government to "adjust" the economic structure. We are familiar with the "key industries, strategic industries and emerging industries" determined by the authority. Under the new normal state, the economic structure will be shaped more by the market force, and in particular, change in consumer preferences.