In a recent discussion hosted by the independent think tank media ChinaTalk, Logan Wright, a partner at Rhodium Group and a senior researcher at the Center for Strategic and International Studies (CSIS), shared insights from his book “Broken China.”
Wright’s central argument in “Broken China” revolves around the disillusionment of the Chinese economy. He points out that China’s growth model, which relied heavily on credit, investment, real estate, and government-led financing, has reached its limit. Without deep fiscal and financial reforms, China is likely to face long-term low growth and increasing reliance on exports. However, this adjustment will have global implications, affecting trade, industrial layout, and supply chain security.
According to Wright, there is no longer systemic economic competition between China and the West; only competition in military and industrial resilience remains.
Following the global financial crisis in 2008, China implemented massive credit and investment stimulus policies. The rapid expansion of China’s banking system, with unprecedented levels of credit growth in less than a decade, was seen in the global economic history.
Initially, these policies provided a counter-cyclical effect, fueling rapid expansion in infrastructure, real estate, and manufacturing investments, sustaining high economic growth. However, as investment continued to increase, finding projects with sufficient returns became increasingly challenging.
From 2012 to 2016, there were further transformations in the financial system. Funds increasingly flowed towards real estate developers, local financing platforms, and third-party asset management institutions. Shadow banking rapidly developed, channeling significant funds away from traditional banking supervision into higher-risk areas.
However, the expansion of investment did not bring about a corresponding increase in productivity. More funds were allocated to maintaining existing investments and debts rather than creating new economic growth drivers.
As financial risks accumulated, the Chinese government began deleveraging, tightening controls on shadow banking, and concentrating the financial system back towards state-owned banks and state-controlled financial institutions. Financial stability became a priority, but capital allocation efficiency was also affected.
Since 2021, the most noticeable downturn in the Chinese economy has been the real estate crisis. At its peak, the real estate and related industries accounted for about 20% to 25% of China’s GDP. Real estate development, construction, land sales, and associated consumption collectively formed a substantial economic chain. However, after a rapid decline in real estate sales and investments, no new major industries emerged to fully replace the funds and demand previously absorbed by the real estate sector.
Some inland cities experienced significant housing oversupply, while coastal cities with faster population growth saw a different scenario: a noticeable reduction in new housing construction, leading to a shift towards the secondary real estate market.
This signifies that merely stimulating real estate investment cannot easily restore the previous growth model. Many real estate assets need to be repriced, with some projects even requiring write-offs. The real issue of the real estate crisis lies not only in declining property prices but in exposing the limitations of the past investment-driven model.
Following the decline in the real estate sector, a more profound issue facing the Chinese economy is inadequate domestic demand. The proportion of household consumption to the economy has long been influenced by factors such as income distribution, social security, and housing. High levels of household savings in the past, coupled with significant investment by local governments and enterprises, led to an economic growth more reliant on investment rather than consumption.
With the slowdown in real estate and infrastructure investments, without a significant increase in household consumption, the economy lacks new sources of demand.
Meanwhile, China’s manufacturing capacity remains substantial. Some of the excess capacity previously absorbed by real estate and domestic investments now needs to find markets through exports, making the role of exports in economic growth increasingly crucial.
The challenge lies in the fact that global demand does not necessarily increase in tandem with China’s expanded production. If China continues to boost exports, it must compete for larger market shares with other countries and regions. This not only leads to increased trade tensions but also impacts manufacturing investment in other economies.
In other words, China’s external dependence is strengthening. Even as the manufacturing sector continues to expand, it does not guarantee the restoration of household income, consumption, and overall GDP growth rates to previous levels.
In recent years, the Chinese government has positioned industries such as new energy vehicles, artificial intelligence, robotics, semiconductors, and advanced manufacturing as new growth drivers. While these industries can improve technological standards and competitiveness, they are mostly capital-intensive industries rather than labor-intensive.
China sees approximately 12 to 13 million new university graduates each year, while the new labor force group totals around 17 to 20 million people. Simultaneously, declining birth rates and a decreasing working-age population are changing the labor force structure.
This leads to a significant contradiction: on one hand, China aims to enhance productivity through automation, robotics, and AI; on the other hand, there is a need to create numerous job opportunities. If companies replace more workers with robots and AI, productivity increases, but it may not address the issue of youth employment.
This dual challenge is why China faces the current phenomena of “industrial upgrading” and “employment pressure.” As the past model of absorbing employment through massive investments in real estate, infrastructure, and manufacturing diminishes, emerging technology industries are not yet equipped to absorb a similar workforce scale.
AI is highly anticipated in China, yet the question remains: what problems can AI truly solve?
China is investing substantial funds in constructing data centers, AI infrastructure, and computing systems. Research by Rhodium Group indicates that China’s investments in super-scale AI infrastructure, including data centers, are estimated to be around 930 billion yuan this year, expected to reach approximately 1.2 trillion yuan next year.
Compared to the immense investments in AI infrastructure, the current global revenue scale of cutting-edge AI models remains limited. Chinese models like DeepSeek and Kimi have yet to generate revenues comparable to large AI enterprises in the United States, with some companies’ high valuations and capital market financing supporting industry expansion.
AI indeed has the potential to boost productivity but may also reduce the demand for some jobs. Therefore, while AI can be a tool for industrial upgrading, it is not a one-size-fits-all solution for addressing China’s issues of insufficient consumption, inadequate employment, and slowing economic growth.
Another objective of China’s AI development is to integrate AI with consumer electronics, advanced manufacturing, and supply chains to further strengthen industrial superiority. This is separate from solely relying on AI to generate profits and employment, illustrating two distinct issues.
From 2012 to 2016, China’s financial system underwent substantial market-oriented expansion. Shadow banking, wealth management products, and non-deposit financing rapidly flourished, with funds increasingly entering real estate, local financing platforms, and private financial institutions.
However, following risk exposure, financial regulation re-concentrated. The Financial Stability and Development Committee established in 2018 was responsible for coordinating financial regulation, rectifying shadow banking, and reducing regulatory arbitrage. Five years later, the Central Financial Committee and the Central Financial Work Committee replaced the original structure, further strengthening the party’s leadership over the financial system.
Simultaneously, increased anticorruption measures, salary constraints, and regulatory pressures have reduced financial institutions’ willingness to assume capital allocation risks. Banks are inclined to provide funds to state-owned enterprises and projects with government backgrounds, rather than actively taking on risks to find new investment opportunities.
There have been significant changes in credit growth. From 2007 to 2016, China’s overall credit growth averaged about 18% per year; from 2017 to 2024, it decreased to approximately 9%, further dropping to around 5% currently. Even household loans have seen contractions.
This shift indicates that the financial system has transitioned from a phase of high-speed expansion to low growth.
To genuinely change the economic structure, increasing bank loans alone is insufficient. The critical questions revolve around how fiscal income is garnered and redistributed by the government to the residents.
The International Monetary Fund (IMF) proposed reform directions including addressing real estate losses, ensuring pre-sold property deliveries, shutting down nonviable developers, and, if necessary, recapitalizing banks.
Meanwhile, China needs to expand its tax base, adjust fiscal relationships between the central and local governments, and increase social security expenditure.
For instance, reforms related to the disparity in urban and rural pensions in China could impact 250 to 300 million individuals, totaling around 30% of the GDP if approximately 130,000 yuan per person is calculated. Even if implemented in phases, substantial financial resources are required.
While such reforms entail large short-term costs, they can enhance residents’ disposable income and spending capacity. However, expanding social security means shifting fiscal resources from investment and industrial subsidies to the household sector. Given China’s long-standing reliance on investment to drive economic growth, these reforms necessitate changes in government revenue and expenditure structures.
The real challenge lies not in proposing reform measures but in determining who bears the costs of reform.
Reducing local financing platforms and compressing state-owned enterprise investments would mean that certain local governments and state-owned enterprises need to curtail expenses. Addressing real estate bad debts would require redistributing losses among banks, developers, local governments, and property buyers. Increasing social security would necessitate additional fiscal revenue.
The previous high-growth model bound significant interests to the existing system, making deep reforms inevitably touch upon existing vested interests.
Simultaneously, in recent years, the Chinese government has further consolidated its centralized control over financial, economic, and industrial policies, emphasizing stability and policy execution within the financial system over the inherent risks differing in capital markets.
Thus, China’s economy faces a crucial choice: continue maintaining the existing model, accepting lower growth and higher export dependence, or undergo fiscal, financial, and income distribution reforms and bear the short-term economic adjustment costs.
Lastly, “Broken China” suggests that a slowdown in the Chinese economy does not necessarily equate to a simultaneous decline in the influence of Chinese manufacturing. Conversely, even with decreased GDP growth, China may continue to expand its global market share in new energy vehicles, consumer electronics, machinery, AI hardware, and other manufacturing sectors.
This scenario poses a challenge for the global economy: while China’s economic growth rate decreases, its control over manufacturing and supply chains remains robust. If domestic demand remains insufficient, Chinese enterprises must seek overseas demand, further driving down the prices of certain products and squeezing out manufacturing investment space in other countries.
Therefore, future economic competition between China, the US, and Europe may not solely be about total GDP competition but more about competition in manufacturing, crucial technology, supply chains, and industrial policies.
The challenges that the US, Europe, and other economies need to address will also change: which industries need reinvestment, which supply chains need reduced reliance, and how to strike a balance between supply chain security and consumer costs.