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Worker at Jinquan Shipbuilding Factory on April 14, 2009 in Jinjiang of Fujian Province, China

Beijing has been furiously putting a positive spin on economic data in the face of the effects of the global economic crisis on China out of fears of a public backlash should the true extent of the slowdown become to apparent.

China’s first quarter economic statistics are due out April 16. Predictions for first quarter gross domestic product (GDP) are around 6 percent growth, half of 2007’s 13 percent and smaller than 2008 fourth quarter numbers, but still better than many of China’s neighbors.

But while Beijing touts signs of recovery (or at least a slowing of the slowing), the government is walking a fine line between trying to keep domestic confidence high and preparing the population for a sustained slump. And for China’s leaders, a drop in domestic confidence could further complicate attempts at economic recovery — and also carry over into increased dissatisfaction with the government and its policies. With no ability to vote in an opposition party, Beijing thus is at risk of increased petitions, demonstrations and rising social instability should it lose the people’s confidence.

Maintaining Positive Spin

Chinese officials and commentators have worked hard to maintain a strong positive spin on the economic crisis to their domestic constituents. Premier Wen Jiabao in January repeated claims that China would be the first country to emerge from the global financial crisis, calling on Chinese workers to “have faith and determination.” During the annual session of the Chinese People’s Political Consultative Conference (CPPCC) in early March, Director of the Foreign Affairs Committee of the CPPCC Zhao Qizheng was even reported as saying that there was neither a financial nor an economic crisis in China.

Noted economist Li Yining was dispatched on a ten-city “China Economic Confidence Tour” in March. He emphasized that the China was not in recession, and that there were many positive signs of strength in the Chinese economy. The Chinese Academy of Social Science, the National Development and Reform Council and the National Banking Regulatory Commission, among others, also joined in the chorus of positive spin on the status of the Chinese economy. And Beijing has also used international issues (like the recent G-20 summit) to raise domestic pride and confidence.

Very public statements by top Chinese officials expressing concern for the safety of their investments in the United States, for example, are intended to emphasize that the Chinese economy is strong and stable while the U.S. economy is weak and uncertain. Beijing’s call for a new international reserve currency to replace the dollar represented a similar message to the domestic audience (as well as for foreign consumption). But Beijing’s “fears” of investment security have not changed its conscious decision to keep buying U.S. Treasuries, and Chinese officials have no real interest in seeing the dollar replaced any time soon.

For Beijing, there is a real concern that a fall in domestic confidence could trigger a sudden drop in consumption, a run on Chinese banks (with people stuffing money under their mattresses as a safer alternative to banks), and a growing distrust of government economic policies. Anecdotal reports from the political and business communities in China suggest there is a real expectation that despite the positive spin, Chinese leaders are expecting fairly unflattering economic statistics not only for the first quarter, but perhaps several quarters beyond. And while they can always fudge the numbers or their interpretation, the true scope of China’s problems is expected to trickle out.

Glimmers of Economic Hope

In recent months, several statistics have emerged that appear to reveal turns for the better in several sectors. Strictly speaking, most positive signs reveal a deceleration of economic contraction rather than actual growth. But even with this slowing of slowing, China’s recovery is heavily dependent upon the recovery of its primary export markets and its sources of investment — areas Beijing has little control over.

January was a particularly bad month, showing the worst drops in imports (-43.1 percent year on year) and foreign direct investment (-32.7 percent), as well as bad showings in exports (-17.5 percent) and other areas. The central government, however, has been quick to depict the negative indications as a reflection of the Chinese New Year, which normally occurs in February and has been blamed for a slowdown in economic activity (due to workers taking time off, manufacturers and service-providers closing shop, etc.). As China’s official statistics are calculated by comparison to the same period a year earlier, vagaries of different seasons play an important role. Thus a slow January 2009 with a New Year holiday will look even worse when compared to previous years, when the New Year drag occurred in February. But the problem with this explanation is that the Chinese New Year usually also sees a hike in retail spending, and China has not always been so vocal in claiming that the holiday slows the economy.

Another glimmer of hope came in the form of the monthly changes in Purchasing Manager’s Index (PMI). This is a broad measure of business activity calculated by looking at several hundred exemplary businesses and the gamut of indicators, including pending orders, product stock, input stock and their purchases and prices, and employment. A PMI above 50 percent indicates growth; below that equals contraction. The Chinese government commission charged with producing PMI ratings, the China Federation of Logistics and Purchasing (CFLP), has indicated a deceleration of PMI contraction for every month since December 2008 (the November low reached 38.8 percent). Thus, PMI is one area where state officials have been able to point to genuine improvements, notably February’s PMI of 49 percent (barely contracting) and March’s 52.4 percent return to growth.

While the CFLP says the PMI has moved into the growth territory, the PMI number put forward by independent brokerage Credit Lyonnais Securities Asia (CLSA) shows a reverse trend, with the PMI of 44.8 percent in March, down from 45.1 in February. Beijing has passed this off as a mischaracterization, saying the CLSA survey includes fewer companies and is not as representative a sample as the CFLP survey, though critics counter that CLSA is seasonally adjusted, making it more accurate. Either way, Beijing was not nearly so critical of the CLSA numbers back in November 2008 — when both assessments of PMI were at their lowest — but the CLSA number was at 40.9 percent, above the CFLP 38.8 percent.

Taken piece by piece, the PMI reveals that the new business activity is not necessarily leading to new profits or conducive to efficiency. This is no doubt partially due to government incentives (such as export rebates) that promote activity, any kind of activity, but which cannot be sure to direct that activity in a beneficial direction. By the CFLP numbers, new orders, purchases of inputs and new outputs all grew in March, indicating that government assistance (in the form of credit and subsidies) has kept manufacturers busy. But new export orders and imports both continue to shrink (albeit less rapidly), along with other categories, showing that demand remains low in both external and internal markets.

The Problem of Export Demand

But for China, the real problem remains export demand, not whether they can kick-start manufacturing and subsidize exports to keep product flowing. Exports are the true engine of the Chinese economy, equal to more than 30 percent of GDP. Exports fell 17.5 percent in January, compared to the same month a year earlier. They plummeted 25.7 percent in February, and then recovered slightly to post just a 17.1 percent drop in March. This deceleration of contraction was trumpeted as an improvement. But it is still very bad for an export-dependent economy to see exports drop by nearly one-fifth along with similar drops month after month.

The government will have to keep its fingers crossed that it can meet the official 2009 estimate of a mere 5 percent export contraction. Meanwhile, imports have dwindled by 43.1 percent, 24.1 percent and 25.1 percent in the first three months of the year respectively, despite the government’s strenuous efforts to use fiscal policy to increase domestic demand. Other attempts to create a domestic demand-driven recovery have included the issuance of coupons and vouchers for rural consumption of big-ticket items like appliances and automobiles. And while these have spurred sales, these are not sustainable patterns, they have required a substantial portion of government money, and in many ways, they have simply absorbed surplus goods sitting in the warehouses and on lots rather than spurring new manufacturing.

The government has offered tax breaks and rebates to help exporters keep exporting whether profitable or not. It is offering incentives and threatening punishments for companies to retain workers whether necessary or not. And it is urging banks to loan more money — and the first three months have seen a massive increase in domestic loans to companies (though primarily to state-owned enterprises, not the private sector) to help them fulfill their employment and export requirements — whether profitable or not. At the same time, real estate prices are falling. On the surface, this may seem positive for those looking to buy. But it may have a major impact on Chinese companies that have been using inflated real estate as collateral for loans. So even as China is showing economic activity, it may be digging a deeper hole than before the current crisis.

The problem for Beijing is that the days of 12 percent and 13 percent GDP growth look to be over for quite a while. Moreover, China’s recovery remains heavily dependent upon a major recovery of global consumption (particularly in the United States). But that is by no means guaranteed. While there are signs of hope for the U.S. economy, they do not necessarily mean consumption levels will surge again as if nothing has happened. Even a U.S. recovery in the second half of 2009 followed six to 12 months later by Europe would leave China’s recovery another year or more in the future. Which leads to the dilemma Beijing faces.

Beijing’s Dilemma

For China, despite talk of shifting to a domestic consumption-based economy, attaining such change is not as easy as talking about it. At the most basic level, China’s economy has been structured over the past three decades to be fueled by exports and inputs of foreign investment. Together, these remain the backbone of the Chinese economy. They are a strength in times of global economic activity, but a lead weight in times of global slowdown. Domestically, only about a quarter of China’s 1.3 billion are really in the economically active “middle” class and above. While that is still a massive number, it leaves nearly a billion people on the receiving end — rather than the productive end — of taxes, social services, state-subsidized health care, pensions and low-cost housing. In short, China has a long way to go before its population catches up to the consumer-driven levels of economic activity seen in places like the United States, Japan or Europe.

On the one hand, the Chinese have worked hard to keep domestic confidence high. On the other hand, they have to temper expectations to account for a sustained slump (at least compared to the high growth rates of recent years). Throughout Asia, governments are facing the same problem. In many cases, the result is a decrease in power for the ruling parties and growing strength of the opposition. Even in countries like Malaysia and Japan, where the ruling parties have had a near monopoly on power for years, the opposition presents an outlet through which a disgruntled population can express its frustration. But in China, there is no such option. The Communist Party of China is the only government power; its authority cannot be challenged.

This creates a higher level of stress when there are problems in China. For how does the population express itself and vent steam? The only legal recourse is the petition process, which ostensibly allows Chinese citizens formally to submit their complaints to the government starting at the local level. But local and regional officials routinely ignore or even try to hush up such complaints out of concerns that reports could damage their chances of promotion, or more immediately, undermine the political and business connections that are the perks of such power positions.

Such behavior leads to repeated cycles of growing dissent that can erupt into protests or riots. Several times in recent years, Beijing has issued new instructions and requirements on local and regional officials on the need to be responsive and address petitioners, but to little avail. Highlighting the tensions, a recent scandal involving a university professor who claimed that the majority of petitioners have clinical psychiatric problems caused a major backlash against the officials responsible for managing the petition process, who merely added to civilian frustrations rather than alleviating them.

Compounding the problem is the perception (and reality) of widespread corruption and nepotism among government officials. Chinese netizens have taken to publishing critical information about their officials, including tracking their behavior and spending and revealing photographic evidence of moral failings and excesses. While embarrassing, this also adds to pressure on the government to ensure officials are more accountable to the people. Recent debates over the publication of assets by officials and the right of private reporting on observed corrupt behavior are reflections of this, as are government moves to allow local-level elections in certain areas. In addition, high-profile crackdowns on corruption serve as “proof” that the government is listening to the people. But by taking overly strong action (or poorly coordinated and contradictory action), the government basically would indict itself — and with no alternative to the Communist Party leadership, government efforts often reverse themselves relatively quickly.

Ultimately, the lack of an outlet leaves pent-up dissatisfaction with economics, economic policy, and the economic policymakers that can flare up into social unrest, protests, and even attacks on government officials and installations. It is in part for this very reason that Beijing has taken such pains to try to keep domestic confidence in the economy of China high despite the reality of the situation.

But painting an excessively rosy picture could backfire as it becomes clear that the slowdown will continue far longer than Beijing may be letting on, and that the growth rates of recent years may not be achievable for quite a while (if at all). And while most countries in the midst of a global slowdown, or even in good times, would consider numbers like a 6 percent GDP growth rate exceptional, in China it is a contraction of growth rate by more than 50 percent from just a few years ago. And if that becomes apparent to the people, Beijing may have more than just economic concerns on its hands: It may have an increasingly uncooperative population as well.