Has China’s economy run out of steam?

Published

1 year ago

September 4, 2023

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The southern Chinese city of Zunyi is awash with signs the nation’s economy is not in good health.

Everywhere you look there are unfinished infrastructure projects; empty apartments, half-constructed tunnels, huge projects where, it seems, the money just ran out.

It is a symbol of a system that is stuttering.

The mighty Chinese economy, that once delivered seemingly miraculous growth of some 10% plus a year, is slowing.

Cracks, driven by structural weaknesses that were once easy to pave over, have started to appear.

The economic model of driving up GDP with vast borrowing and building worked when China was poor and needed new roads, bridges and airports, but it is no longer sustainable in a modern China that now finds itself drowning in debt and with nothing left to build.

There are big questions about what happens next.

In Zunyi, one road in particular speaks volumes about the troubles now plaguing parts of the system.

Snaking over parts of the city, the Funxin Expressway is a multilane highway that cost 4bn yuan to build, but sections now lie incomplete and abandoned.

On one side, a handful of cars occasionally drive by, the other is completely empty save for a few locals who now use it to take a stroll or walk their dogs.

There is something almost eerie about walking along it – a sense that the area has been somewhat forgotten.

A local woman, Mrs Chen, tells us the bridge has been like this for ten years.

“A lot of land was taken, many people had to move away,” she says.

“Why has the construction just stopped?” she asks, “This is a government fund, I think they didn’t use the money for anything. I think it’s been wasted.”

When we asked local authorities, the Ministry of Foreign Affairs Zunyi branch said the expressway was completed on 31 August 2023 (just two days after we visited) and is scheduled to be put in use the first half of September.

They added the local government “actively encourages and guides construction companies and developers to move forward with construction in an orderly fashion,” and that the government “strictly follows national and provincial rules and regulations on investment and management”.

On the other side of a small hill, I find the connecting tunnel, where the project has come to an abrupt stop.

Opposite the entrance of the tunnel are huge concrete pillars where construction was clearly meant to continue and beyond that, blocks of homes vacated and marked for demolition – lives moved on to make space.

There are just a few residents who have hung on here, including Shi Chunli who has lived here for 40 years.

She claims to have given the authorities her property in exchange for a new apartment elsewhere.

“They said we would have a new apartment in three years” she says, “it will be the fifth year this September, but everything is still the same.”

And she has a pretty clear idea as to why her life is in this limbo.

“It’s mainly that there is no money. The state does not have any money left.”

There are projects like this across China, but there is a particularly high concentration in Guizhou province, where Zunyi is located.

In fact, Guizhou province, one of the poorest in the country, is also the most indebted with its debt pile over 135% of its GDP.

This rural province leaned heavily into the Chinese growth model that for so long delivered such remarkable numbers: huge borrowing, massive investment and vast building – regardless of whether the projects were needed.

Indeed, Guizhou has 11 airports, many quite close to each other, and nearly half of the world’s 100 tallest bridges, according to state media outlet Economic Daily.

It is a model that has been replicated throughout the country. Investment has made up an average of 44% of China’s economy in recent years, for which experts say there is “no remotely comparable historical precedent”.

But while this model made sense when China was playing catch up, it has now become a major liability.

The government has few places to turn to deliver the high growth it has become accustomed to.

But this is a problem the government cannot ‘invest’ its way out of, as it has in the face of previous economic challenges.

As many experts will point out, this level of unproductive investment has been a symptom of the Chinese economy for many years, so why is it biting now?

It is largely because other parts of the economy are struggling – exposing the fault lines at its core.

Last month, prices in China actually fell when compared to the same month last year, raising fears of more long-term deflation.

The key issue is that consumer demand simply hasn’t bounced back post-pandemic as China’s leaders hoped it would.

Months of zero-COVID rules that saw whole cities plunged into sudden extreme lockdowns destroyed thousands of businesses and vastly depleted family savings.

The net result is that people just don’t have the money to spend, and what they do have they are reluctant to part with (China’s saving rate is one of the highest in the world according to the IMF).

These trends were clear in some of the smaller markets around Zunyi.

“Business is bad now,” one stall holder told us, “it’s getting worse year after year.”

And why?

“The pandemic,” she says, “the impact of the pandemic is too big.”

There are other issues too, highly interventionist government policy that cracked down on certain industries like tech and private tutoring have left certain sectors crippled and foreign investment nervous.

And in this environment millions of young people are struggling to find work; the number of 16-year-olds out of work in June was a record 21.3%.

The government has since stopped publishing these figures, but experts fear the true number may be much higher.

But perhaps most threatening of all is the deep crisis in the housing market.

In a similar way to local government spending on infrastructure, Chinese developers have spent years borrowing huge sums to build millions of apartments, often pre-selling them to buyers before construction was complete.

Following moves by the central government in 2021 to try and curb this excessive borrowing, many found themselves unable to afford their debt payments and some like Evergrande, once one of China’s biggest developers, defaulted.

It plunged the market into a crisis which it has struggled to recover from, leaving many buyers with unfinished homes and many others unwilling to invest in property.

Prices have fallen and there have been huge knock-on impacts on industries that service construction.

This month, the spotlight has been on Country Garden, another Chinese developer, once considered a safe pair of hands, as it too struggled to make a scheduled bond payment.

Shares in the firm have rallied, however, following reports it has agreed a deal with creditors to make the payments in instalments over the next three years.

There are fears about how all this will play out and whether it will affect the rest of the world.

With the Chinese economy facing increasing global scrutiny, President Xi Jinping has surprised commentators by signalling he will not attend this weekend’s G20 summit in India. Premier Li Qiang will attend instead.

But experts insist there almost certainly won’t be a major financial crash.

“It’s very unlikely because the financial breakdown is really a balance sheet breakdown,” explains Michael Pettis, a renowned expert on the Chinese economy and professor at Peking University.

“In China, the regulators are so powerful, and they can restructure liabilities at will, so that you will never have a balance sheet breakdown.

“Over the long-term, that’s a bad thing because it means that the necessary adjustment is much slower than otherwise. But from a social and political point of view, that’s a good thing, particularly over the short-term.”

What is most likely, he and other experts insist, is that China sees a more prolonged period of slow down and re-adjustment in its economy akin to what happened to Japan from the 1990s onwards.

There will, however, likely be some pain to come for ordinary Chinese people as this slow but ultimately necessary process plays itself out.

Business

Russia sanctions: Fears over UK enforcement by HMRC

Published

7 hours ago

January 17, 2025

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Russia sanctions: Fears over UK enforcement by HMRC

Fears have been raised over the robustness of Britain’s trade sanctions against Russia after the main government department enforcing the rules admitted it has no idea how many cases it is investigating.

HM Revenue and Customs (HMRC), which monitors and polices flows of goods in and out of the country, says it had no central record of how many investigations it’s carrying out into Russian sanctions. It also said that while it had issued six fines in relation to sanction-breaking since 2022, it would not name the firms sanctioned or provide any further detail on what they did wrong.

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The disclosures were part of a response to a Freedom of Information (FOI) request from Sky News, as part of its wider investigation into the sanctions regime against Russia.

In recent months we’ve reported on data showing flows of goods, including dual-use items which can be turned into weapons, from the UK into Caucasus and Central Asian states. We’ve shown how luxury British cars are being transported across the border from the Caucasus into Russia. And we’ve shown the contrast between rhetoric and reality on the various rules clamping down on trade in Russian fossil fuels.

But despite the challenges facing the sanctions regime, information on the enforcement of those sanctions is quite scant. The Office of Financial Sanctions Implementation (OFSI) has so far only imposed a single £15,000 fine for breach of financial sanctions – in other words those moving money in or out of Russia or helping sanctioned individuals do so.

HMRC has so far issued six fines in relation to Russian sanctions, but it refused to name any companies or individuals affected by the fines – or to provide any further details on what they were doing to break the rules. And, unlike other organisations, such as OFSI, it has never said how many cases it is working on – giving little sense of the scale of the pipeline of forthcoming action.

Asked by Sky News to provide such details under FOI legislation, HMRC said: “The number of current investigations which may involve these sanctions, regardless of the eventual outcome, is not centrally recorded.

“To determine how many investigations are within scope of your request would require a manual search of a significant number of records, held by different business areas. Not all investigations reach the level of formal cases being opened, but these investigations are still recorded as compliance activity which would need to be manually reviewed to provide an answer.”

Mark Handley, a partner at law firm Duane Morris, has spent years monitoring the information released on sanctions cases. He said: “If you’re trying to organise an organisation like HMRC in terms of resourcing and all the rest of it, you would think that they might know how many investigations they have ongoing and how to staff all of those. So I’m surprised that they didn’t have that number to hand.”

HMRC also said it would protect the privacy of companies fined for breaking sanctions rules. The FOI response continued: “HMRC do not consider that disclosing the company name would drive compliance, promote voluntary disclosure or be proportionate.”

This is in stark contrast to other countries, notably the US, where companies are routinely named and shamed in an effort to drive compliance.

Leigh Hansson, partner at legal firm Reed Smith and a sanctions expert, said: “The US loves to name and shame, and I think from a US compliance perspective, it’s actually done quite a lot in further enforcing compliance both within the United States and globally.

“Because once you see a company [has] been fined or they’re placed on the specially-designated nationals list, all the other companies in their industry call around going: ‘hey, am I next?’

“And they want to know what it is that the company did – how did they violate sanctions?”

“One of the things the United States does in these penalty announcements is they provide background on the things the company did wrong, but these are also the things the company did right… And the information that they publish is quite helpful.”

The absence of such disclosure in the UK means both businesses and the public more widely have less clarity on the rules – which in turn may help explain why the regime has been more leaky than expected, with goods still flowing towards Russian satellite states, despite the fact that sanctions prohibit even indirect flows of goods to Russia.

Mr Handley said one consequence of the secrecy from HMRC is that “you’re operating in a vacuum, at the moment. Because the government’s not giving you the information that tells you what kind of conduct gets you to a civil settlement as opposed to a criminal prosecution”.

“So, again, even if you’re keeping the name anonymous, you can help businesses and individuals behave better and properly by giving more information,” he added.

Business

Pizza Hut salvages restaurants’ future with pre-pack sale

Published

13 hours ago

January 16, 2025

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Pizza Hut salvages restaurants' future with pre-pack sale

The future of Pizza Hut’s restaurants in Britain has been salvaged after the business was sold out of insolvency proceedings to the brand’s main partner in Denmark and Sweden.

Sky News can reveal that Heart With Smart (HWS), Pizza Hut’s dine-in franchise partner in the UK, was sold on Thursday to an entity controlled by investment firm Directional Capital.

The pre-pack administration – which was reported by Sky News on Monday – ends a two-month process to identify new investors for the business, which had been left scrambling to secure funding in the wake of Rachel Reeves’s October budget.

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Sources said that only one Pizza Hut restaurant would close as part of the deal.

More than 3,000 jobs have been preserved as a result of the transaction with Directional Capital-owned vehicle DC London Pie, they added.

“Over the past six years, we have made great progress in building our business and strengthening our operations to become one of the UK’s leading hospitality franchise operators, all whilst navigating a challenging economic backdrop,” Jens Hofma, HWS’s chief executive, said in response to an enquiry from Sky News on Thursday.

“With the acquisition by Directional Capital announced today, the future of the business has been secured with a strong platform in place.”

Dwayne Boothe, an executive at Directional Capital, said: “This transaction marks an important milestone for Directional Capital as we continue to build the Directional Pizza platform into a premier food & beverage operator throughout the UK and Europe.

“Directional Pizza continues to invest in improving food and beverage across its growing 240 plus locations in Europe and the UK.”

The extent of a rescue deal for Pizza Hut’s UK restaurants had been cast into doubt by the government’s decision to impose steep increases on employers’ national insurance contributions (NICs) from April.

These are expected to add approximately £4m to HWS’s annual cost base – equivalent to more than half of last year’s earnings before interest, tax, depreciation and amortisation.

Until the pre-pack deal, HWS was owned by a combination of Pricoa, a lender, and the company’s management, led by Mr Hofma.

They led a management buyout reportedly worth £100m in 2018, with the business having previously owned by Rutland Partners, a private equity firm.

HWS licenses the Pizza Hut name from Yum! Brands, the American food giant which also owns KFC.

Interpath Advisory has been overseeing the sale and insolvency process.

Even before the Budget, restaurant operators were feeling significant pressure, with TGI Fridays collapsing into administration before being sold to a consortium of Breal Capital and Calveton.

Sky News also revealed during the autumn that Pizza Express had hired investment bankers to advise on a debt refinancing.

HWS operates all of Pizza Hut’s dine-in restaurants in Britain, but has no involvement with its large number of delivery outlets, which are run by individual franchisees.

Directional Capital, however, is understood to own two of Pizza Hut’s UK delivery franchisees.

Accounts filed at Companies House for HWS4 for the period from December 5, 2022 to December 3, 2023 show that it completed a restructuring of its debt under which its lenders agreed to suspend repayments of some of its borrowings until November next year.

The terms of the same facilities were also extended to September 2027, while it also signed a new ten-year Pizza Hut franchise agreement with Yum Brands which expires in 2032.

“Whilst market conditions have improved noticeably since 2022, consumers remain challenged by higher-than-average levels of inflation, high mortgage costs and slow growth in the economy,” the accounts said.

It added: “The costs of business remain challenging.”

Pizza Hut opened its first UK restaurant in the early 1970s and expanded rapidly over the following 15 years.

In 2020, the company announced that it was closing dozens of restaurants, with the loss of hundreds of jobs, through a company voluntary arrangement (CVA).

At that time, it operated more than 240 sites across the UK.

Business

Germany: Europe’s largest economy is facing a third consecutive year of recession

Published

22 hours ago

January 16, 2025

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Germany: Europe's largest economy is facing a third consecutive year of recession

Forget this week’s minor decrease in the UK inflation number.

The most important European data release was the confirmation from Germany that, during 2024, its economy contracted for the second consecutive year.

Europe’s largest economy shrank by 0.2% during 2024 – on top of a 0.3% contraction in 2023.

Now it must be stressed that this was a very early estimate from Germany’s Federal Statistics Office and that the numbers may be revised higher in due course. That health warning is especially appropriate this time around because, very unexpectedly, the figures suggest the economy contracted during the final three months of the year and most economists had expected a modest expansion.

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If unrevised, though, it would confirm that Germany is suffering its worst bout of economic stagnation since the Second World War.

The timing is lousy for Olaf Scholz, Germany’s chancellor, who faces the electorate just six weeks from now.

Worse still, things seem unlikely to get better this year, regardless of who wins the election.

Germany, along with the rest of the world, is watching anxiously to see what tariffs Donald Trump will slap on imports when he returns to the White House next week.

Germany, whose trade surplus with the United States is estimated by the Reuters news agency to have hit a record €65bbn (£54.7bn) during the first 11 months of 2024, is likely to be a prime target for such tariffs.

Aside from that, Germany remains beset by some of the problems with which it has been grappling for some time.

Because of its large manufacturing sector, Germany has been hit disproportionately by the surge in energy prices since Russia invaded Ukraine nearly three years ago, while those manufacturers are also suffering from intense competition from China. The big three carmakers – Volkswagen, Mercedes-Benz and BMW – were already staring at a huge increase in costs because of having to switch to producing electric vehicles instead of cars powered by traditional internal combustion engines. That task has got harder as Chinese EV makers, such as BYD, undercut them on price.

Other German manufacturers – many of which have not fully recovered from the COVID lockdowns five years ago – have also been beset by higher costs as shown by the fact that, remarkably, German industrial production in November last year was fully 15% lower than the record high achieved in 2017.

German consumer spending, meanwhile, remains becalmed. Consumers have kept their purse strings closed amid the economic uncertainty while a fall in house prices has further depressed sentiment. While home ownership is lower in Germany than many other OECD countries, those Germans who do own their own homes have a bigger proportion of their household wealth tied up in bricks and mortar than most of their OECD counterparts, including the property-crazy British.

Consumer sentiment has also been hit by waves of lay-offs. German companies in the Fortune 500, including big names such as Siemens, Bosch, Thyssenkrupp and Deutsche Bahn, are reckoned to have laid off more than 60,000 staff during the first 10 months of 2024. Bosch, one of the country’s most admired manufacturing companies, announced in November alone plans to let go of some 7,000 workers.

More of the same is expected in 2025.

Volkswagen shocked the German public in September last year when it said it was considering its first German factory closure in its 87-year history. Analysts suggest as many as 15,000 jobs could go at the company.

Accordingly, hopes for much of a recovery are severely depressed.

As Jens-Oliver Niklasch, of LBBW Bank, put it today: “Everything suggests that 2025 will be the third consecutive year of recession.”

That is not the view of the Bundesbank, Germany’s central bank, whose official forecast – set last month – is that the economy will expand by 0.2% this year. But that was down from its previous forecast of 1.1% – and growth of 0.2%, for a weary German electorate, will not feel that different from a contraction of 0.2%.

And all is not yet lost. The European Central Bank is widely expected to cut interest rates more aggressively this year than any of its peers. Meanwhile, one option for whoever wins the German election would be to remove the ‘debt brake’ imposed in 2009 in response to the global financial crisis, which restricts the government from running a structural budget deficit of more than 0.35% of German GDP each year.

The incoming chancellor, expected to be Friedrich Merz of the centre-right CDU/CSU, could easily justify such a move by ramping up defence spending in response to Mr Trump’s demands for NATO members to do so. Mr Merz has also indicated that policies aimed at supporting decarbonisation will take less of a priority than defending Germany’s beleaguered manufacturers.

But these are all, for now, only things that may happen rather than things that will happen.

And the current economic doldrums, in the meantime, will only push German voters to the extreme left-wing Alliance Sahra Wagenknecht or the extreme right-wing Alternative fur Deutschland.