Orders from on high can shape the Chinese economy. In 2013 President Xi Jinping said that cities should be more like sponges, sopping up rainwater for reuse when parched. China is now working on some 30 “sponge cities.”
Then in 2014 Xi said that the government should encourage businesses to invest in state projects. Since then China has announced plans for thousands of “public-private partnerships,” including sponge cities. Investors do not seem interested, however, and sponge cities are struggling to soak up private capital.
This month Guyuan, a city in Ningxia, a northwestern region that is dry most of the year, launched China’s first sponge-city PPP. However, as is the case with others that are in the works, the “private” side of the partnership was not all it was cracked up to be: The investor, Beijing Capital, in fact is a government-owned firm—and, to make the deal viable, the government pitched in a subsidy worth nearly one-fifth of the $750-million total cost.
This points to a bigger problem: a sharp slowdown in private investment in China. New data released recently underlined the trend. During the first eight months of 2016, private-sector investment rose by only 2.1% from the same period a year earlier, virtually the lowest rise since records began in 2005. Meanwhile state-backed investment has soared.
It might seem unsurprising that the government is driving China’s economy, but it marks a big shift: The private sector was responsible for roughly two-thirds of investment during the past decade. Since investment accounts for nearly half of GDP, private caution clouds the growth outlook.
The simplest explanation for the slowdown is that the state has crowded out the private sector. Government-backed entities long have had better access to banks. In the past private companies have compensated by using their own earnings and tapping shadow lenders. Both routes are harder this year: Profits are not growing at the heady double-digit rates of not long ago and, at the same time, regulators have curbed shadow banks, leery of the risks brewing inside them. A side effect has been to deprive some private companies of financing.
That is only part of the problem, however. Many companies have money but are not spending it, according to Zhu Haibin of J.P. Morgan Chase. They are keenly aware of the overcapacity in industries from coal mining to solar-panel making. Returns on capital have fallen by a third since 2011 to about 7%, according to Société Générale. With average bank lending rates only a touch lower at 5.25%, many are holding back, hoping that profitability will improve.
The politics of big infrastructure projects also are a stumbling block. Local governments are reluctant to cede their most promising projects to private investors. Many officials are suspicious of private companies. Beijing municipality recently signed a PPP agreement for a new highway, and picked China Railway Construction Corp, a mammoth state-owned enterprise, as its partner. The official in charge suggested that private companies had neither the ability nor the capital necessary.
Moreover, with ventures such as the sponge cities, it is not clear to private investors how they will make returns. Unlike toll roads or power stations, which are normal fodder for PPP deals, better drains and reservoirs are not easily converted into profits.
This being China, there are, as ever, questions about the quality of the data on investment. Separately, catastrophic numbers from Liaoning, a northeastern province, have wreaked havoc with national statistics this year. Investment there is down by nearly 60%, but this may largely reflect a clean-up of previously embellished figures, not an economic disaster.
The government itself, however, is certainly behaving as if the problem is more than a statistical accident. This summer it dispatched teams of inspectors to 18 of China’s 31 provinces to see why private companies were not investing. Earlier this month the cabinet unveiled measures to encourage them to spend more. It promised to treat private firms investing in sectors such as health and education the same way it treats public ones, and called on banks to lend more to them. It also said that it would roll out more PPP projects, enticing private investors with larger state subsidies.
China could make it easier for private businesses to invest in state-controlled sectors such as finance and transportation. The government also could break up some of the state-owned enterprises that currently dominate these sectors. For the time being, though, it is moving in the opposite direction, merging state companies to create even bigger national champions.
© 2016 Economist Newspaper Ltd., London (September 17).
All rights reserved. Reprinted with permission.
Image credits: Stephen Crowley/The New York Times