This spring, I spent three weeks traveling around China and needless to say I, along with every other visitor, was impressed by the economic progress the Chinese have made in the years since the Cultural Revolution. Tens of millions have been moved from rural villages into megacities of gleaming skyscrapers, apartments, modern subways, and traffic jams of sleek, late model cars. The jams have become so bad that China’s major cities have had to implement restrictions on driving and on new car registrations.

There are of course downsides to this marvel which many believe will propel China into number one position in terms of economic and political power within a decade or two. On many days, the air in major Chinese cities is approaching lethality. Most rivers are cesspools, tap water is undrinkable, dangerous metals are building up in agricultural soil and starting to make their way into the food chain and to top it all off nobody really gets to vote for leaders or on policy. The Chinese Communist Party rules with its own version of the “social contract” – shut up about “democracy, human rights, justice,” and all that western claptrap; let us rule as we see fit; and in return we are delivering world-beating economic growth so that someday you will all be rich.

In recent months, however, there has been increasing evidence that the good times may be in danger. One simply cannot grow an economy at circa 10 percent a year while ignoring the environment. Last winter air pollution in the major cities occasionally reached nearly 15 times the acceptable level. It is likely that thousands with respiratory problems died, but in China one does not talk about things like that.
 
The redeeming side of air pollution is that it affects rich and the poor, the powerful and the powerless alike so that in recent months China’s new leadership vowed to take action against pollution after years of neglect in the name of economic growth. Remember that the US started passing clean air legislation in 1955 and got really serious with the EPA 43 years ago.
 
China’s pollution problem is rather simple; they now burn half the world’s coal – some 4.3 billion tons a year and 10 million barrels of oil a day. To cut pollution they have to cut coal consumption and at least put some controls on motor fuels, but to grow their economy at the targeted 7.5 percent a year, they almost certainly will have to increase coal consumption. Hydro, nuclear, and other renewables take too long to build or produce too little electricity. Something has got to go – breathable air or rapid economic growth.
 
This year another problem has arisen – China simply is not growing as fast as it used to. For weeks now the financial press has been wringing its hands over the lackluster numbers coming out of Beijing and their impact on the global economy. Although Beijing still claims to be growing its GDP at 7.7 percent a year, these numbers are becoming increasingly suspect. While the central government may see the merits of accurate growth statistics, those at lower levels have a great incentive to look as good as possible. Some recent numbers such as the growth in electricity production in the 1st quarter suggest that China’s economy may now be growing at a rate closer to three percent.
 
Part of the current problem dates back to 2008. In order to sidestep the effects of the global recession, Beijing undertook a $2.5 trillion stimulus program so that whatever was dear to local officials’ hearts was built with borrowed money no matter the economic benefit. Airports, apartments, high-speed rail lines, shopping malls sprang up everywhere. Many of these projects are seriously underutilized and are unlikely to ever pay back the money invested.
While the exact numbers are unknown, the debt acquired by China’s local governments is thought to be on the order of $2-3 trillion while much of debt has been off the books through “shadow financing.” This surge in local government spending amounted to a Chinese version of America’s sub-prime lending debacle, except this one went for public works and apartment buildings rather than single family housing.
 
Unregulated off-the-books “shadow banking” which has doubled in the last three years is now thought to total some $6 trillion. Government officials are concerned that it is out of control. Last month efforts to clamp down resulted in a spike in inter-bank interest rates and fears of a liquidity crisis. Whether China has the tools to work its way out of all this without a major economic slowdown has yet to be seen — but many observers are worried.
 
The impact on the global oil market of efforts to control pollution and unwind excessive debt could be considerable. For the last decade, Beijing has been increasing its demand for oil by circa 500,000 barrels a day or more in most years. Until recently projections had China’s demand for oil increasing at this pace indefinitely, surpassing US oil consumption by the end of the decade and buying up all the oil OPEC and other exporters can produce soon thereafter.
 
In last six months, however, reasons to rethink these projections are rising. Although China’s leaders want to grow their economy, the reality of un-breathable air should be enough to slow or even halt these ambitions. There are technologies out there which would allow China to produce increasing amounts of energy while maintaining air quality, but they will take years and much money to implement on the scale need to clean-up China’s air.
 
While chaos in the Middle East is threatening to curtail oil supplies from the region, the end of rapid growth in China is threatening to restrain a major source of increasing demand for oil. How these balance out and whether oil prices go up or down in the next few years remains to be seen.