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Beijing has spent the past week needling Washington over the forcible deflation and subsequent crash of a certain balloon. But a different sort of leakage should worry Beijing much more: China’s population fell outright last year for the first time since the early 1960s.

The threat posed by China’s declining labor force to its low-cost manufacturing model is well understood. But worsening demographics could strike at the heart of China’s development strategy in another way as well: by eating away at the savings it needs to finance its expansive industrial policy and research juggernaut.

China’s dependency ratio—the population of children and elderly relative to that of the 15- to 64-year-old age bracket—hit 46% in 2021, up from just 34% in 2010. An earlier decline in that ratio was a key factor pushing China’s savings rate skyward in the early 2000s.

To be sure, lots of workers without dependents to support wasn’t the only factor. Companies were also socking away funds, for example, thanks to the profit boom after China’s accession to the World Trade Organization. But there are some key reasons to think that the nation’s savings rate will keep falling now. Households or the government will need to spend much more supporting the elderly, and companies will need to pay up for scarcer labor. At the same time, the globalized trading system that supercharged Chinese manufacturing profits is badly fraying.

Scarcer savings are important because China’s state-directed development strategy depends on an enormous pool of cheap capital stuck in the country. State-owned industrial companies, whose aggregate return on assets was below average bank-lending rates for much of the past decade, depend on below-market rates from state banks. Financing multibillion-dollar chip-investment funds or subsidies for local electric-vehicle champions could become more difficult as China saves less. And the need to keep scarcer savings at home could further darken the prospects for capital account opening—or a more dominant global role for the yuan.

Even considering China’s relatively meager public welfare system, the burden on public finances is already becoming more obvious. By 2021 a quarter of all local government expenditures were already for social insurance, healthcare and family planning, figures from data provider CEIC show, up from just 18% as recently as 2013.

China does have levers it can pull to keep people in the workforce and contain rising labor costs for companies. Most obviously, it can raise the statutory retirement age, which remains low: 60 and 55 respectively for white-collar men and women. But that might have a more limited impact that one would expect: 70% of men keep working after 60, according to Capital Economics, in part because retirement benefits are so meager. Pushing more women back into the labor force in their 50s could have unintended consequences, too. They often provide substantial free child care to their grandchildren, which helps keep young women in their 20s and 30s in the workforce. Curtailing that could drive fertility rates even lower, or push younger women to work fewer hours.

Automation is a more promising strategy, at least from companies’ perspectives. China installed 243,300 industrial robots in 2021, according to the International Federation of Robotics, up by almost half from 2020. But robots are still relatively limited in the sorts of jobs they can do—and if the U.S. and its allies keep curtailing China’s access to advanced chip technology, that could eventually impair the nation’s ability to fully capitalize on robotics and artificial intelligence as a solution.

In the near term, the demographic drag on household finances could limit the staying power of the current sharp rebound in Chinese spending on discretionary services like eating out and leisure travel. Demographics isn’t destiny per se. But for China, it is an increasingly chilly headwind.

Source: The Wall Street Journal February 13, 2023 | By Nathaniel Taplin