Will it be a hard landing?

“Even if a minefield or the abyss should lie before me, I will march straight ahead without looking back.”

Bold words once uttered by Zhu Rongji, the combative former mayor of Shanghai who rose through the ranks to serve as Chinese premier before Wen Jiabao took over in 2003.

But at least Zhu can claim to have lived up to some of the rhetoric, especially during a stint as governor of the People’s Bank of China in the mid-1990s, when he is credited with calming an inflationary storm, without decimating economic growth in the process.

Zhu has since retired, restraining himself to an occasionally acerbic comment from the sidelines. But more firmly back on the agenda is whether China is going to experience another “hard landing” (generically: a sharp downturn that follows a period of strong demand and expansion).

Roused by a mix of stubbornly inflationary signals and a slew of data suggesting sputtering growth, the China bears have been stirring themselves from hibernation.

One view is that the downside risks have been apparent for a while but that investors have been distracted, first with events in North Africa and the Middle East, and then by the earthquake in Japan. Now that media interest in these stories is on the wane, the hard landing theme is getting more elbowroom.

Nor is the debate confined to the international press – it got top billing as a cover story earlier this month in Capital Week, a leading Chinese financial magazine.

The piece chose to focus on three themes in sounding the alarm, all of which will be familiar to regular WiC readers: the deepening financial crisis for private sector firms starved of credit; news of a continuing series of crippling power outages; and further signs of the waning ‘demographic dividend’ as worker shortages start to force up wages.

Apart from their immediate impact, the trends also point to the challenges for the Chinese economy as is it undergoes transition, Capital Week says. For instance, the electricity outages are more than a problem of power deficit in the short term, as they also denote the failure to rid China of some of the most wasteful industrial users. Despite talk of reining in their excesses, the energy-guzzlers gallop on.

Similarly, the struggle for financial survival among private sector firms is nothing new. While the state banks beef up their profits on higher interest margins, smaller enterprises are being locked out of lending.

“One end is heaven, and the other end is hell,” Capital Week suggests.

In fact, few commentators have been ready to offer a definitive view that a sharp slowdown is going to happen.

The preference is to keep the debate broader-brush, talking more about the effect that a rapid slowdown might have, particularly on unemployment, which is expected to surge. Other predictions for a hard landing: non-performing bank loans will shoot up, as stock prices head steeply in the opposite direction.

But above all, the expectation is that any correction would be substantial, with the associated risk that it will move beyond the reach of many of the normal policymaking tools.

Of course, China’s leaders have wrestled with the economic cycle before. Back in 1994, Zhu Rongji was dealing with inflation well above 20%, far more than today. The worst inflationary crisis before that – in 1988 – saw prices rise at a similar pace. It was handled less successfully, which is said to have contributed to the subsequent unrest the following year.

Hence Beijing’s close monitoring of the current data, much of which is pointing to weaker economic performance. Vehicle sales – a preferred bellwether last year – actually fell by 0.25% in April, the first drop in two years. The Shanghai Composite is down close to 10% over the last month. And then on Monday HSBC’s latest China PMI results showed manufacturing activity decelerating to a 10-month low, well below the long-term average.

So: not an especially robust set of figures. But government officials have been keen to interpret them more positively, as a sign that their cooling policies are working. This is a deliberately engineered slowdown, they insist. Some of the alternatives – especially coltish GDP growth fuelled by a continued expansion of credit and a further run up in asset prices – would be much worse.

Fan Jianping, a senior economist at the National Development and Reform Commission, made precisely this point at a metals conference last week, reports the China Securities Journal.

“We don’t need to make a fuss about it [the economic data]”, Fan told attendees. “Such a slowdown is caused by the exit from stimulus measures, which means it should be controllable.”

HSBC agrees that Beijing’s main policy objective has switched from growth to price stability. Qu Hongbin, co-head of Asian Economics Research, also sees signs that cooling is working (money supply and credit growth are well down on their peaks, and GDP in the first quarter was up just 8.5%, compared to almost 10% in the final months of last year).

Although HSBC is forecasting further hikes in interest rates and bank reserve ratio requirements ahead, it doesn’t think that this will derail China’s economic prospects.

Instead, it is sticking to a forecast of 9% growth for the full year. And specifically, Qu reiterates that the chances of a hard landing are “remote”. How about the medium term?

Here the media-aware Nouriel Roubini of New York University has been prominently bearish – and typically contrarian too.

Instead of focusing on sorting out a soft landing today, Roubini argues that policymakers should be more concerned about the “brick wall” that the economy is likely to hit in a couple of years time.

His view is that Beijing’s investment-driven growth strategy is running out of steam and that by 2013 a “sharp slowdown” will be unavoidable – although it will be brought about by deflation rather than by rising prices.

Roubini’s narrative on overinvestment covers some familiar themes like overcapacity in industries like steel and cement; the sleek but deserted airports and bullet trains; and the ghost towns populated only by empty shopping malls and white-elephant buildings.

These are his leading indicators but he expects that overcapacity is soon going to hit the manufacturing and real estate sectors more widely, and that a slump will then ensue.

He’s been (famously) right before; will he be right on China too?

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