They have proven themselves over the last 30 years to be extraordinarily accomplished, delivering sustained economic growth and higher living standards. The country is now poised to overtake Germany as the world's leading exporter and to overtake Japan as the world's second-largest economy.

China's leaders have combined dazzling economic performance with political stability and so far have negotiated dramatic social change with ruthless skill. All this constitutes an alternative model for other developing nations to the traditional Western form of free market liberal democracy. The Beijing model is authoritarian export-led growth.

The question is whether this model can comfortably continue when its main export markets in North America and Europe have sharply reduced their appetites for Chinese imports.

The other severe challenges for the Beijing authorities are well-known: the shortage of arable land; the even worse shortages of water; the growing dependence on imported energy; an environmental crisis so severe that it has become a major health problem; and the demographic nightmare that will soon result from 30 years of the one-child policy.

All these are sobering difficulties that lie ahead. But the immediate concern must be the vast amounts of credit that have been pumped into the economy. This was Beijing's strategy to escape the global recession. China's economy has experienced what looks to be a recovery during the past six months, with the country on target to meet the 8 percent GDP growth target for 2009 (though statistics in China are notoriously dubious).

The rapid pickup in the economy has been largely a result of a massive increase in state-mandated bank lending. In the first half of the year new loans reached an incredible $1.1 trillion, almost double the total lending for the whole of the previous year. At this rate, China's banks will lend this year around half the country's GDP. This is without precedent, in China or elsewhere.

Most of this has gone to local government-backed entities to help finance their stimulus-related infrastructure projects and to state-owned enterprises, rather than to the usually more productive small and medium-sized private enterprises. Wei Jianing, an official at the State Council's Development and Research Center, said nearly 1.2 trillion yuan of loans are suspected to have been illegally invested in stocks and a lot more is going into speculative residential construction.

A property bubble is forming fast. Analysts at Mitsubishi UFJ Financial Group have reviewed recent land auctions to demonstrate that a square meter of unused land now costs more than the same space in adjacent existing condominiums. So the price of those condominiums is now also soaring, over 10 percent in a month. Large plots in recent big land auctions in Shanghai's Qingpu district and in Beijing's Guangqu Road have gone for more than three times the reserve price, with state-owned enterprises like Sinopec as the buyers.

"The cause of the dominance of the large state enterprises has been their ability to obtain huge levels of finance from the banks, which they have passed onto the real estate companies in their groups," commented MUFG. "Private companies remain at a major disadvantage to state enterprises in terms of access to funding."

There is a lot of anecdotal evidence of completed but empty housing blocks and half-built shopping malls. One recent report, cited by Professor Michael Pettis of Beijing University's Guanghua School of Management, noted "$10 billion of non-performing loans in unfinished or empty apartment blocks in the single city of Guiyang."

But local governments are all in favor of such speculative construction since much of their income comes from land sales. They give 5 percent of the proceeds to the central government and keep the rest.

"The bubble is getting bigger and bigger," warns Alan Chiang, head of mainland Chinese residential property in Shenzhen for property broker DTZ. Veteran Morgan Stanley analyst Andy Xie says: "Chinese stock and property markets have bubbled up again. It was fueled by bank lending and inflation fear. I think that Chinese stocks and properties are 50 percent to 100 percent overvalued. "

A recovery that depends on re-inflating an asset bubble may work in the short term, but it is very risky. Shanghai-based Michael Kurtz, head of China research for Macquarie Securities, warns that it "could exacerbate politically destabilizing wealth disparities, cause misallocation of savings and physical resources, and create the threat of widespread wealth destruction if policymakers misjudge the exit strategy and have to step hard on the brakes."

The China Banking Regulatory Commission is trying to restrain credit, requiring banks to raise their bad-loan reserve ratio to 150 percent at the end of the year, forcing the lenders to set aside more funds. It may be too late. Agricultural Bank of China, one of the Big Four state lenders, could need an additional 247.9 billion yuan for loan losses, 378 percent of its pre-tax profit last year, according to the Fitch ratings agency.

On top of all this, wage inflation in China has been significantly higher than other countries (15 percent over the last 18 months compared with 2.4 percent in Brazil, for example).

But then politics is deeply involved. The infighting is well under way for the post of President Hu Jintao's successor in 2012, and he very much wants to protect his legacy by ensuring that his supporters form a majority of the future politburo. So this is no time to turn in a bad economic report. By hook or by crook, Beijing may be expected to meet its self-imposed target of 8 percent annual growth -- even if the consequent bubble defers the need to tackle China's other looming problems.

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