Overcapacity in China - Causes, Impacts and Recommendations

2009 - Study in cooperation with the European Chamber

Overcapacity is a blight on China’s industrial landscape, affecting dozens of industries and wreaking far-reaching damage on the global economy in general, and China’s economic growth in particular. Yet it is a strangely under-studied and seldom-examined phenomenon.

In the Summer and Autumn of 2009, the European Chamber and Roland Berger Strategy Consultants set out to examine to what extent overcapacity harms China’s economic development and contributes to rising trade tensions, and to provide suggestions on how this increasingly urgent problem could be addressed.

As will be outlined below, the overcapacity problem in China is by no means a new one. But its pervasive influence has become ever more prominent – and its effects on both the Chinese and international economies have become ever more destructive – in light of the global economic crisis that still grips world markets.

The crisis has throttled demand for exports from China at a time when even more investment, in the form of the Chinese government’s massive stimulus package, is being pumped into building new plants and adding unnecessary capacity. As a result, the problem is actually getting worse in many industries.

This in turn is having a severe effect on the Chinese economy. The extremely low utilization rates in industries producing at overcapacity go hand-in-glove with resource waste. Companies are cutting corners, often disregarding environmental as well as health and safety standards and circumventing labor and social laws. Companies in overcapacity industries suffer from low profits and lack sufficient cash for R&D projects, leading to less innovation. Meanwhile, as banks bankroll the addition of unnecessary capacity in certain industries, the threat from non-performing loans (NPLs) is growing. At the same time, the global impact already can be felt in the form of growing trade tensions.

Since trade frictions hamper supply chains, this is a major threat to globalisation’s positive effects. The economic crisis has, then, given added impetus to the drive to find solutions to this key issue. It is precisely for this reason that the European Chamber, along with Roland Berger Strategy Consultants, produced this report.

The goal of the study is to discover why and how overcapacity has come to affect some of China’s key industries and, armed with this knowledge, to provide recommendations and suggestions on how the problem can be brought under control.