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By Jeremy Glaser and Daniel Rohr, CFA | 08-15-2013 04:00 PM

China's Perilous Rebalancing Act

The investment-led economic model has run so long in China that transitioning to a consumption model could be very risky to the current system, says Morningstar's Dan Rohr.

Jeremy Glaser: For Morningstar, I’m Jeremy Glaser. There have been a lot of worries about Chinese growth and the future of the Chinese economy. I am here today with Dan Rohr, a stock analyst here at Morningstar, to get his take on what’s happening in China today and what some of the outcomes could be for the Chinese economy.

Dan, thanks for joining me.

Dan Rohr: Thanks for having me, Jeremy.

Glaser: Let's talk about why at least in the past couple of months there has seemed to be an increasing number of stories, worrying about Chinese gross domestic product growth, worrying about what’s happening in China. What are some of the big macroeconomic issues that they're facing right now?

Rohr: It’s certainly a complex topic, and there's a lot of stuff going down. But just to boil it down to two points really--Fundamentally, the issues facing the Chinese economy are slowing growth amid growing credit. In other words, they're having to borrow more to generate the same unit of growth, and generally speaking that's not a very good recipe. And that's obviously garnered a lot of media attention, and it’s garnered the attention of the powers that be in Beijing, as well.

Glaser: Let's look over recent history. How has China been achieving that higher growth rate? Is it just from borrowing more or is it more this urbanization trend that people talk about a lot?

Rohr: I should stipulate, when I say borrowing, it's not China borrowing from other countries. It's borrowing that occurs within China, and that borrowing is largely a transfer from household savings to state-owned enterprise borrowers and local government borrowers. You asked about how China has been growing so fast recently. The composition of China's growth, especially in the past 10 years, has really been investment-dominated. Folks in the United States like to think of China as an export-led story, but it's really an investment story. By that I mean everything from infrastructure investment, to residential real estate investment, to investment in manufacturing capacity. At present that constitutes upward of 50% of Chinese GDP in a given year, which is truly an unprecedented share of economic activity when you compare it versus every major country in history.

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