China’s Economic Slowdown and How It Affects You
Why China’s Economic Growth Is Slowing
China's economy has enjoyed decades of double-digit growth, thanks to its low-cost exports of machinery, equipment, and consumer products. As a result, China is the world's largest economy. In 2019, it contributed $22.5 trillion, or 17.3%, of the world's $130 trillion in gross domestic product (GDP). This size means that any slowdown in China’s economy affects the whole world.
Since 2010, China’s economy has slowed from a 10.6% growth rate to 6.1%. Although this is a dramatic slowdown for China, it’s still blazing-fast compared with developed economies. For example, the U.S. economy has grown around 2% to 3% during that time.
Causes of China’s Slowdown
There are three main causes of China’s economic slowdown: an intentional shift by Chinese leaders, the U.S./China trade war, and the COVID pandemic.
Made in China 2025 Plan
In 2015, Chinese leaders released the “Made in China 2025” plan. It outlined a shift in China’s economic focus from being export-driven to greater domestic consumption. China also aims to become a global leader in technology, in fields such as robotics, aircraft, and electric vehicles. To do this, Chinese companies were urged to invest abroad to gain more technological expertise. The plan also set goals for companies to produce more components in China and import less. To support this new strategy, it’s believed that China has accepted slower growth.
Many countries are concerned that China’s current economic plan really means global domination of its target industries.
Other countries are especially worried that the Chinese government might completely “lock out” foreign firms from participating in its economy.
US Launches Trade War
In 2018, the Trump administration initiated a trade war with China. The U.S. raised tariffs on $250 billion worth of Chinese imports. China retaliated with tariffs on $110 billion of U.S. imports.
The trade war reduced trade between the two countries from $635 billion in 2017 to $558 billion in 2019. More than one-fifth of businesses surveyed by the American Chamber of Commerce in China (AmCham) reported a drop in revenue in 2019. Almost 25% of firms reduced spending.
However, the Phase One trade agreement signed in late 2019 aimed to reduce the tariffs on both sides. China agreed to increase its purchases of U.S. imports. These actions should increase trade between the two superpowers.
The COVID pandemic severely damaged China’s economy. China shut down everything in the first quarter of 2020 to contain the spread. Retail stores closed, traffic dropped, and manufacturing stopped. This also overlapped with Lunar New Year, a festival that drives much economic activity in China.
As a result, China’s economy contracted 6.8% in the first quarter. It recouped some of the loss, growing 3.2% in the second quarter. Experts predict that 2020 growth overall will be between 1% and 3%, the slowest for China since 1976.
Implications for the U.S. Economy
The economic relationship between China and the U.S. is extremely symbiotic. A China slowdown will affect the U.S. in three main areas: trade, the U.S. debt, and the value of the U.S. dollar itself.
China and the U.S. are each other's biggest trade partners. U.S. companies exported $106 billion in goods to China in 2019. If China’s economy slows, so will its demand for U.S. exports such as commercial aircraft, automobiles, and food.
IMPORTANT: In 2019, the U.S. imported $452.2 billion of Chinese goods, primarily computers, cell phones, apparel, and toys. U.S. exports to China are far less than its imports from that country, creating a $346 billion deficit. As a result, the largest U.S. trade deficit is with China.
A lot of imports in China are from U.S. manufacturers that send raw materials there for low-cost assembly.
Once shipped back to the U.S., they are considered imports. For that reason, the trade deficit indirectly benefits many American companies.
China’s pandemic shutdown briefly halted or otherwise disrupted supplies to 75% of U.S.-based firms. It also affected American companies doing business in China. Almost half of the companies operating there surveyed by AmCham reported revenue declines of 10% or more in March. Almost all (90%) experienced travel disruptions. More than half were forced to implement hiring freezes.
Impact on US Treasurys
China’s growth slowdown also could affect America’s ability to issue new debt. China is the second-largest largest holder of U.S. Treasurys. As China's exports to the U.S. decline, its government has fewer dollars on hand to purchase Treasurys. The Chinese government gets these dollars from Chinese companies that receive them as payments for their exports.
Fewer Chinese exports translate to less demand for U.S. debt.
Less demand means the U.S. Treasury will have to promise higher interest rates when auctioning the notes. That puts upward pressure on U.S. interest rates. Banks base their mortgage interest rates on the 10-year Treasury yield.
Higher interest rates might also prevent Congress from increasing federal spending. That would then slow U.S. economic growth.
Value of the US Dollar
As China’s demand for U.S. Treasurys falls, so will demand for the dollar. Treasurys are one measurement of the dollar’s value. The dollar’s value will decline versus the yuan.
As the dollar weakens, retail prices for imports will increase. That’s especially true for oil and gasoline. These contracts are priced in dollars. If the dollar weakens, the oil-exporting countries could lower output to raise the price and offset the dollar decline.
At the same time, a weak dollar would help U.S. exporters because their products would cost less in foreign markets.
How to Protect Your Portfolio from China’s Slowdown
As China’s economy slows, it will affect trade, the U.S. debt, and the dollar’s value. How can you protect yourself from all these events? The best way is with a diversified portfolio because not all the assets’ movements correlate with each other. When the value of one rises, the value of the other falls.
A diversified portfolio lowers overall risk because, no matter what the economy does, some asset classes will benefit.
Risk is also reduced because it's rare that the entire portfolio would be wiped out by any single event. A diversified portfolio is your best defense against any financial impact, including a slowdown in China’s economy.
World Bank. "GDP, PPP (constant 2019 international $)." Accessed Sept. 21, 2020. https://data.worldbank.org/indicator/NY.GDP.MKTP.PP.KD
Bureau of Economic Analysis. “National Income and Product Accounts Tables: Table 1.1.1. Percent Change From Preceding Period in Real Gross Domestic Product.” Accessed Sept. 21, 2020.
Congressional Research Service. "China’s Economic Rise: History, Trends, Challenges, and Implications for the United States," Summary. Accessed Sept. 21, 2020.
U.S. Census. "Trade in Goods with China." Accessed Sept. 21, 2020.
U.S.-China Economic and Security Review Commission. "Cascading Economic Impacts of the COVID-19 Outbreak in China." Accessed Sept. 21, 2020.
American Chamber of Commerce in China. "Quarterly. Issue 2 2020," Download Issue 2, Page 14. Accessed Sept. 21, 2020.