China’s weaknesses are becoming too serious for Xi to ignore

There is another weakness that Beijing cannot solve simply by lending more money: its people. China invested heavily in physical infrastructure but invested less heavily in human capital.

For a generation, the great question about China was how quickly it would overtake the United States. Its extraordinary economic rise seemed almost unstoppable. China became the workshop of the world, built the infrastructure of a modern superpower and accumulated an industrial capacity that few countries could match. But the more important question now may be a different one: can the economic model that made the country rich survive the success it created?

Without question, China remains a formidable country. It has world-class manufacturing, a huge domestic market, enormous financial resources and a government capable of mobilising capital on a scale that democratic governments can rarely match. Yet beneath these strengths lie weaknesses that are becoming increasingly difficult to ignore. The danger is not necessarily economic collapse. It is something more prosaic and potentially more enduring: stagnation.

For years, China relied on investment to generate growth. Roads, railways, ports, factories and apartment blocks were built at extraordinary speed. But the returns on that investment have steadily diminished. Increasingly, China has had to borrow more and more to generate progressively less additional growth. Since 2008, the country’s banks have added more than $30 trillion in assets. By 2024, the banking system had grown to around $59 trillion, roughly three times China’s GDP. Although some of this represents productive investment, much of it is tied up in empty apartments, lossmaking factories and loans that may never be fully repaid.

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The property boom illustrates the problem. Construction and property once accounted for close to 30 percent of China’s economy. Their collapse has inflicted enormous damage on household wealth. Chinese families had put an unusually large proportion of their savings into property, leaving them particularly exposed when prices fell.

The consequences are visible in consumer behaviour. Household consumption remains unusually low as a share of the economy, while disposable incomes have grown slowly. Deflation has persisted, encouraging consumers to postpone purchases and businesses to cut prices. This creates a vicious circle. People who feel less wealthy spend less, and companies facing weak demand invest less. Lower investment makes it harder to generate growth, while the debt accumulated during the investment boom remains.

China’s problem is therefore not simply that it has too much debt. It is that it has too much debt in an economy that is struggling to generate the growth needed to service it.

There is another weakness that Beijing cannot solve simply by lending more money: its people. China invested heavily in physical infrastructure but invested less heavily in human capital. Educational attainment remains markedly weaker than it was in countries such as South Korea and Taiwan at comparable stages of development.

That matters because the easiest phase of China’s economic transformation is largely over. Millions of workers could once move from farms into factories and construction. The next stage requires a more educated workforce capable of moving into advanced manufacturing, technology and services.

Economists have documented the educational and nutritional disadvantages facing many children in rural China. The consequences may not be apparent immediately, but they become serious when an economy needs workers with more sophisticated skills. A country cannot easily move up the technological ladder if too many of its workers were never given the education necessary to climb it.