China could be facing the same kind of anemic growth that Japan did in the 1990s unless it moves to weaken the yuan to alleviate the country's debt burden and fend off deflation, according to KKR & Co., one of the world's largest private equity firms.
The country's currency interventions have drained cash from the financial system, tightening liquidity further at a time when money is already leaving the country in droves, Henry McVey, head of KKR's Global Macro & Asset Allocation team, said in a research note Tuesday. The tightening of money supply and falling inflation are making it more expensive for companies to repay their debt, ultimately hurting economic expansion, he said.
"China cannot ignore the one-two punch of deflation and capital outflows without having to ultimately realign its currency strategy," said McVey. "If it does choose to ignore these items, then we believe GDP growth could stagnate further the way it did in Japan during the 1990s (i.e., high real rates restrain growth amidst too much debt)."