Every now and then, an army of experts goes around proclaiming the end of China’s economy. Since mid-July 2012, the new song is about China being a bubble and the bubble bursting. Giving the answers right away: Yes, China’s economy is weakening; Yes, there are troubling signals; No, China is not a bubble; No, the bubble is not bursting.

What is wrong with China?

Chinese economic authorities have revised their growth-forecast from 8 percent to 7.5 percent for the year 2012. This rate, taken for face-value, doesn’t mean anything. It is important to compare it with inflation, which has been estimated with 4-5 percent.

This leaves room for something around a 3 percent yearly real growth rate. Not bad? Not good! China needs more than 4 percent growth in order to pull its citizens out of poverty and to accumulate capital to invest in all those new branches of innovation and technology it aspires to compete in. Most importantly, China needs more than 4 percent real growth rate in order to fulfill the Communist Party’s promise to its people and therefore in order for the party continuing in power.

So; it’s true, after all, that China will be facing downturn risks this year. The weakening of the spectacular growth may entail that the country will be getting stuck in the middle income trap. Even a mild recession is possible. But it does not mean that it will decline or fail.

The best definition of a bubble was given by Alan Greenspan talking about speculative “irrational exuberance.” This means that a bubble is fundamentally speculative and driven by mostly (macroeconomic) irrational actions. China’s economy, however, is the contrary of speculation.

Its profit rates ― if anything ― are lower than the high yields of exuberance. Its economic planning is too rational not to scare notorious risk-takers. The very fact that the whole country is constantly analyzing data and looking for flaws in order to remedy them, tells us that it is not a bubble.

There is value in China. Over the last decades, the country has come a long way. Today, Chinese companies are world-players, universities innovate, the labor-market has know-how, banking and finance thrives and there is a relatively high rate of new investment. China still has strong fundamentals that allow a rational pricing of its assets. Therefore, it’s not a bubble and it’s not going to burst.

Yes! And it is important. China’s remarkable resilience to crisis (so far) and the value it is building up come at high cost. The more the government intervenes to create value and to avert downturns, the bigger economic imbalance it creates. First, it is diverting almost all investment into infrastructure, telecommunications and construction.

This crowds out more interesting options like technology or pharmaceuticals. The logic is simple: If the government gives me a safeguard to build a road at a return rate of 5 percent, I will not be investing in technology at a rate of 8 percent but without safeguard.

This massive accumulation of investment in some sectors not only diminishes capital gains but also influences the allocation of labor to lesser-paid jobs therefore keeping the value of labor below the market threshold. These two market distortions ultimately lead to less growth.

Second, China is making its provinces pay for these massive investments. This leads provinces to debt; some have already a debt to GDP ratio of above 100 percent. If there is anything to learn from Europe: sovereign debt is the enemy of growth and stability.

What does this all mean? China is about to go through a soft-patch. This is not as worrisome as the prophets of doom will make-believe. However, the Middle Kingdom has economic challenges that need to be addressed. The sooner the better.

By Henrique Schneider

Henrique Schneider is chief economist of the Swiss Federation of Small and Medium Enterprises and a researcher on the Chinese economy. ― Ed.