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What China’s economic challenges mean for the Gulf

Reducing dependence would be a big macro-economic policy risk

China President Xi Jinping at a Chinese military museum Reuters
Chinese president Xi Jinping has held off on stimulus packages despite Chinese growth slowing

What happens in China matters hugely to the rest of the world, and to the economies of the Arabian Gulf in particular.

So the direction that the world’s second largest economy will take over the next year or so will be closely watched by economic policymakers in the region.

Will Chinese government efforts to kickstart the dynamic global growth machine of the past four decades be successful?

Or is the country heading towards a period of what some economists call “Japanification”? A prolonged period of economic slowdown and deflation began in Japan in the 1990s and is still a problem for Tokyo policymakers.

If the latter arises the impact on the Middle East, and especially the energy exporters of the Gulf, is likely to be significant.

China is the biggest export market for oil and gas from Gulf states such as the UAE, Saudi Arabia and Qatar.

For most of this year Opec+, the crude producers’ alliance led by Saudi Arabia and Russia, has been trying to balance demand and supply, but has had only limited success, mainly because the big China element of that equation kept on changing.

Most energy economists at the beginning of the year expected a surge in Chinese oil imports as its manufacturing sector re-opened after Covid-19 restrictions were lifted. That has not yet materialised.

The price of Brent crude has stayed in a band of around $80-85 per barrel, even as Opec+ has progressively cut output levels.

The economic hit to Saudi Arabia – the main source of output reductions – has been significant. Some experts predict a technical recession in the kingdom’s economy this year or next, illustrating perfectly how China has a direct and material effect on the region.

Chinese shoppers seen in ShanghaiReuters
Chinese shoppers have not pursued post-pandemic ‘revenge spending’ and growth is comparatively sluggish

But it is not just in energy markets that a Chinese downturn would negatively impact the region.

Since the global financial crisis of 2008-09, the countries of the GCC have turned increasingly to Asia, and China in particular, as part of the eastward tilt of the world economy.

China is the biggest trading partner of both Saudi Arabia and the UAE, for instance.

While oil dominates the East-bound trade, manufactured goods, energy infrastructure investment, telecommunications technology and – notably – defence equipment head in the opposite direction.

Any general economic slowdown in China’s $18 trillion economy would almost certainly decelerate these growing commercial flows.

The picture is not entirely bleak. China still forecasts GDP growth this year of around 5 percent, a figure of which most countries in the west would be proud.

But that compares with such astonishing growth levels for much of the past two decades – GDP growth regularly hit double figures in many years – that it constitutes a very definite slowdown in the Chinese context.

Three economic hurdles

The basic Chinese economic problem is threefold: a growing bubble in real estate markets; a lack of consumer activity as post-Covid “revenge spending” is almost entirely absent; and high levels of debt across the public and private sectors.

Inflation – still a real problem for the West – is not an issue for Beijing. In fact the opposite problem is the case, with prices set for a small deflationary move later this year. Those are all the basic ingredients of Japanification.

While China’s growth years, especially after the global financial crisis, were largely the result of government economic policy, President Xi Jinping has so far held off from any general stimulus package that could get the economy going again, apparently content to let things work through the system.

Western policymakers are aware of the problems that a slowing Chinese economy can bring for the world.

Janet Yellen, the US treasury secretary, recently talked of the “risk factor” in Beijing. President Biden – maybe making more of a political point in the rivalry between the two countries – called the Chinese economy a “ticking time bomb”.

There is open talk among Western policymakers of the need to “de-risk” their economic ties with China. Which would pretty much amount to cutting or reducing the trade links that have fuelled global economic growth for decades.

The Arabian Gulf does not have as much leeway when it comes to de-risking – it has put most of its eggs in the Chinese basket and any attempt to reduce dependence on China would be a big macroeconomic policy risk.

The region will be trusting that President Xi can quickly sort out his economic problems.

Frank Kane is Editor-at-Large at AGBI