How long can China defy history and logic with its imbalances?

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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.

The writer is a faculty member at Yale, formerly chair of Morgan Stanley Asia, and is the author of ‘Accidental Conflict: America, China, and the Clash of False Narratives’.

How long can it last? That always seems to be the most salient question about the Chinese economy. By defying history and logic, growth in modern China has stayed the course considerably longer than most optimists ever imagined.

But as you learn quickly on Wall Street, the past invariably offers promises to be broken. That could finally be the case for China as it comes face to face with its unsustainable economic imbalances. The latest statistics hint at the severity of this problem. Not only did overall economic growth of 4.3 per cent in the second quarter of 2026 slip below the lower bound of this year’s modest 4.5 to 5 per cent target set just a few months ago, but an unfathomable dichotomy has opened up in the structure of its gigantic economy.

Midway through 2026, the only source of meaningful strength on the demand side of the Chinese economy was in exports, which rose 27 per cent year-on-year in June. By contrast, over the same period, overall economic growth was dragged down by paltry increases in consumer-driven retail sales (up only 1 per cent in June) and sagging fixed investment (down 5.7 per cent in the first half).

While this weakness on the domestic front has been only partly offset by resilience in external demand — reflected in a modest 5.3 per cent year-on-year increase in industrial production — the contrast between the moribund consumer economy and the resilient producer economy could not be any sharper. 

Imbalances do not last forever. Former Premier Wen Jiabao’s famous 2007 warning about an unstable and unbalanced Chinese economy sparked a vigorous debate. That gave rise to several major domestic policy initiatives such as the Common Prosperity Campaign to address the unequal distribution of income and wealth, supply-side structural reforms to avoid a Japan-style productivity slump, and a deleveraging campaign to cope with a big crisis in the property sector. While the jury is still out on the ultimate effectiveness of these policies, Beijing at least deserves credit for trying.

Since the days of Wen, I have bemoaned subpar Chinese consumption. Over the years, China’s leadership has paid only lip service to this issue. Follow-through on the consumption policy front remains discouraging — especially the lack of social safety-net reforms to healthcare and pensions that would reduce the excesses of precautionary household saving and boost discretionary consumer demand.

Some in China try to explain away a low consumption share of GDP as the inevitable result of arithmetic mismatch arising from its leapfrog development model, which has drawn disproportionate support from surging investment and exports. Another argument has also been made that investment should be redefined to include capital invested in human and social improvement. These arguments conclude that investment-led Chinese growth, the essence of its producer model, is here to stay in one form or another.

This is tightly aligned with the views of Xi Jinping, who has backed a strategy aimed at improving Chinese living standards and competitiveness through emphasis on “new quality productive forces” such as AI, green technology, electric vehicles and other areas of advanced manufacturing.  

But with domestic demand weak and getting weaker, the producer model is a recipe for excess supply that will flood overseas markets. Consequently, China will be facing tough foreign pushback over the external implications of its unflinching support for a producer economy. This increases the likelihood of protectionist action, not just in the US but also in Europe and the global south.

With good reason. China already accounts for about 30 per cent of value added in global manufacturing. UN data suggests this share could rise towards 45 per cent by 2030. This would rival the peak share of global manufacturing in the US in the aftermath of the second world war. But there is a big difference between today’s China and earlier industrial powers: those economies of yesteryear enjoyed solid support from domestic consumers.

China’s steadfast reliance on the producer model is not just a test of the character of its economy. It is a test of the future for the global economy. The country is demanding far too much of a world fixated on cheap consumer goods. Ever-mounting imbalances brought the US and the world economy to its knees during the great financial crisis of 2008-09. It could do the same for China. How long can it last? Not much longer.