China meltdown: Will China’s GDP growth drop by more than 30% in 2011?

Although this is not our base case scenario, mounting intensity over the subject obliges an analysis of the risk.

Let us define a hard landing as a 30% drop (or more) in real GDP growth over a 12-month period. Since 1980, there have been four such episodes.

Prior to the country's entry into the WTO in 2001, sharp decelerations of output growth weres driven mainly by internal factors. This makes sense as China's linkages with the rest of the world were weak back then.

In the 1980s, hard landings were preceded by rising inflation. Prior to the largest output drop in 1989, consumer inflation rose sharply from 8.0% in 1986 to 18.8% in 1988. This led to social discontentment.

By contrast, prior GDP growth rates seem to tell us very little. The hard landing scenarios
in the 1980s were always caused by excessive money supply growth, followed by stringent administrative tightening, often involving credit quotas.

China has, however, engineered some soft landings too. In 1993, when Zhu Rongji was PBoC governor, he hiked a total of 342/234bps in the one-year deposit/lending rates within a short three months to fend off inflation. Inflation had surged to 30% YoY at some points. Inflation fell sharply the following year but the economy managed to decelerate in a measured manner.

The macroeconomic austerity program in 2004-2005, aimed at slowing down investment growth, was another successful soft landing. However, that episode did not see sharp advances in money supply growth relative to GDP. Administrative measures alone were sufficient to solve the problem without the help of RRR nor interest rate hikes.