China hits pain barrier on road to prosperity

China's rust belt struggles with decline
China's rust belt struggles with decline

For nearly 40 years, China's Communists have been relaxing their grip on the economy to make people richer.

The endgame, former leader Deng Xiaoping said in 1987, was to achieve "a medium standard of living." That ambitious goal is now within reach -- China will be "moderately prosperous" by 2020, says President Xi Jinping.

But the last mile of this ultra marathon could be the hardest. Growth is the slowest it has been in 25 years, debt levels are exploding, environmental degradation is widespread and income inequality is rising.

"Now is the most painful period" for the Chinese economy, Alibaba founder Jack Ma said at the weekend.

Millions of Chinese workers are losing their jobs as heavy industry declines, and China faces a huge bill to soften the blow of its move away from manufacturing toward services and consumption.

Related: China's central bank chief warns about high corporate debt

There have been plenty of winners in China's rise to the world's second biggest economy, from billionaire entrepreneurs to the millions who have been lifted out of poverty and now own Western, and Chinese, gadgets.

But the transition to an economic model that relies on technology and innovation, rather than the old playbook of state investment and exports, means many others are now losing out.

The sprawling, state owned enterprises that dominate Chinese industry, are the first target. Their losses are an enormous drain on the country's finances. The steel industry, which employs about 3.8 million people, is operating at 67% capacity; to be profitable that rate needs to be near 85%.

Chronic overcapacity exists in many other sectors like coal, cement, other metals and glass. With slowing growth in China, and around the world, there's no easy fix.

Related: China plans to cut 1.8 million coal and steel jobs

The Chinese government says 1.8 million jobs will be cut in the steel and coal sectors alone. That's nowhere near enough, say economists at Societe Generale.

They estimate the capacity reductions so far announced are only 10% of what is needed across the whole industrial sector. And that means millions more jobs are likely to go.

The government has earmarked about $15 billion for restructuring costs and to help those losing their jobs find work. That could turn out to be a drop in the ocean.

The impact of the downsizing can be seen in China's rust belt -- after driving economic growth for a decade, it's now the weakest part of the country. Liaoning, a northeastern province, grew by 3% last year, less than half the national rate.

Related: China's rust belt is feeling the squeeze

In Benxi, a steel town in the province, some are out of work and others face 50% pay cuts. There is an attitude of grim acceptance, but also anger that the government is not doing more to help. Many expect things to get worse.

Will Beijing keep cutting jobs? Does it have the stomach for more short term pain, in exchange for more sustainable growth in the long term?

Many analysts say the economic landscape is fragile. And Premier Li Keqiang has acknowledged that this year will be crucial for carrying out structural reforms.

But sweeping restructuring in industries employing millions is fraught with the risk of social unrest -- a red line that the Communist Party may not want to cross.

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