China has ample policy tools to fulfill this year's economic goals
Published: Sep 14, 2023 09:46 PM

Illustration: Liu Xidan/Global Times

Illustration: Liu Xidan/Global Times

The direction of one country's economy during a period of time - up or down - is a result of a range of complex factors, which generally fall into two categories: structural factors and cyclical factors. The reason behind the great economic success China made in the past 45 years of reform and opening-up was down to both structural factors - reform and opening-up and cyclical factors - demographic dividend.

As the contribution of the cyclical factors - mainly the country's demographic dividend - has started fading since 2011, China has been adopting investment-driven measures to offset the downward pressure on its economy and maintain stable growth, but the debt level in all sectors of China's economy has grown significantly correspondingly.

Over the past 10 years, China has adopted countercyclical policies frequently to boost economic growth. Not only has it successfully achieved the goal of doubling per capita disposable income in 2020 despite COVID-19 impacts, but has it also been very effective in promoting economic transformation and upgrading. In emerging industries such as new-energy vehicles, China has rapidly emerged as a global leader.

China's economy has faced multiple pressures this year. In the past few months, the real estate market, foreign trade and other fields have been relatively weak, and many economic indicators have fallen short of expectations. The market hopes more economic policies could be adopted to stimulate economic growth, while also revitalizing the property and stock markets.

In fact, China has introduced a series of policies in a timely manner this year which have played a positive role in stabilizing economic growth. More importantly, there are still ample tools in China's policy toolbox to resolve the temporary issues the economy is facing, such as the increasing local debts and the declining sentiment in the housing market.

First, one must understand the difference between China's economic system and the Western economic system. China is a socialist market economy whereby public ownership plays a dominant role, while the West is a market economy with private ownership as the main body. 

This means that the scale of assets that the Chinese government can mobilize is much larger than that in Western societies. In addition to the world's largest state-owned enterprises, land, minerals, forests, water resources are all state-owned, and these can all become policy tools used by central authorities. That is to say, in addition to the policy tools commonly used by Western governments, which China also has, China has more policy tools that Western countries do not have.

Secondly, China is at a different stage of economic development than Western countries. China is a developing country, and unlike other developing countries, China accounts for 30 percent of the world's manufacturing base. China has a strong commodity supply capacity and has the distinctive characteristics of the world's factory. Therefore, when the West is generally facing high inflationary pressure, China's PPI is still negative. This makes China's monetary policy more independent, which is why China can continue to cut interest rates in the context of Western interest rate hikes.

Regarding interest rate cuts, many people are concerned that it will lead to the depreciation of China's currency. In fact, the yuan has so far outperformed nearly all developing countries' currencies. For example, in the past three decades, the average depreciation rate of the local currencies of developing countries against the US dollar has exceeded 90 percent, while yuan has appreciated against the US dollar. Therefore, China does not need to worry too much about moderate depreciation of the yuan, because moderate depreciation will also be beneficial to exports and, in turn, employment.

Third, China's macro leverage ratio is not low, in fact close to the average level for developed economies, but the leverage ratio of the central government is very low, at about 21 percent. The US federal government is more than 110 percent, and the Japanese central government is about 250 percent. Therefore, there is still a lot of room for the Chinese central government to increase leverage in the future.

Generally speaking, it is not difficult for China to achieve its economic growth targets this year, but the government needs to improve the quality of expenditures, and fiscal expenditures should achieve the effect of improving quality and efficiency.

In the short term, China can appropriately increase the issuance of government bonds in the second half of the year, while at the same time ramping up efforts to use quasi-fiscal policy tools. Monetary policy needs to match fiscal policy in terms of signals. If US inflation levels fall back in the second half of the year and the Federal Reserve stops raising interest rates, China's monetary policy may still have some room for lowering required reserve ratios, but there is not much room for lowering interest rates.

In terms of preventing and resolving local government debt risks, the Political Bureau meeting of the CPC Central Committee held on July 24 clearly stated that it is necessary to "formulate and implement a package of debt-clearing plan." In the short term, local debt costs can be reduced by extending debt, increasing the amount of refinancing bonds, and revitalizing state-owned assets through "equity finance." In the long term, the scale of treasury bonds issued by the central government can be increased, and the scale of special bonds can be reduced. By gradually replacing local government debt and implicit debt with special treasury bonds, the entire debt structure can be optimized.

The Central Economic Work Conference at the end of last year proposed that "restoring and expanding consumption should be given top priority." This actually pointed out that, in addition to cyclical factors, the current economic downturn is also dragged down by structural factors such as insufficient effective demand. And this structural problem is related to China's long-standing model of promoting economic growth through investment and exports.

Promoting consumption is fundamentally about increasing incomes, or reducing the burden on residents in debt expenditures, medical care, pensions, or education investments. Recently, the central bank has introduced measures to lower existing mortgage interest rates, which can indeed reduce residents' debt burden to a certain extent.

At present, actual debt repayment pressure on China's households is higher than that of major developed countries, which is the core factor inhibiting the recovery of consumption. In the fourth quarter of 2022, the ratio of total required household debt payments to total disposable income of China's household sector was 142.5 percent, and the proportion of disposable income used to repay principal and interest was 14 percent, which is higher than that of developed countries such as the US, UK, Germany, France, and Japan. 

Therefore, it is unrealistic to expect household leverage to continue to increase. Possible future measures include: First, to increase the income of low- and middle-income groups by continuing to promote the reform of the income distribution system. Second, to implement targeted policies to provide targeted income subsidies for the unemployed residents, those living on subsistence allowances and low-income groups.

The author is chief economist at Zhongtai Securities.