Economist Min Zhu, speaking at a World Economic Forum (WEF) panel in China in late June, was among the first to hint at the nation’s underwhelming post-Covid policy stimulus.
Zhu, a former deputy managing director of the International Monetary Fund (IMF) and a former deputy governor of the People’s Bank of China (PBOC), is no casual observer of the Chinese economy and its role in the world. He is also one of my oldest and wisest friends in China, and I have learned to take his views very seriously.
Zhu’s prediction has proven to be accurate. Despite a promising snapback after the abrupt zero-Covid exit, China’s economic rebound has faltered in recent months. Many had hoped the government would respond to this shortfall and introduce another large-scale stimulus package, as is its usual practice.
Yet a series of announcements in mid-August from the PBOC, the China Securities Regulatory Commission (CSRC) and the State Council has dashed those hopes. The PBOC guided short-term lending rates only marginally lower, while the CSRC focused on enhancing market mechanisms, including longer trading sessions, reduced brokerage fees and support for stock buy-backs.
The State Council, for its part, scrambled to slow the carnage in the property sector as Country Garden faces liquidity pressures and China Evergrande filed for bankruptcy protection in the United States. For a country that has long prided itself on implementing proactive policies to pre-empt economic pressures, the latest stimulus measures are surprisingly reactive.
The question is why. Zhu, in his remarks during the WEF panel, pointed to China’s debt problem. By now, of course, the broad dimensions of China’s debt problem are well-known.
According to the Bank for International Settlements (BIS), non-financial debt stood at 297 per cent of GDP at the end of 2022. That is more than double the ratio at the onset of the global financial crisis in late 2008, when it was 139 per cent, and up more than 100 percentage points since late 2012, when President Xi Jinping became general secretary of the Communist Party.
Zhu’s argument is straightforward: an overleveraged Chinese economy cannot afford another round of debt-financed stimulus. Chinese policymakers have been attuned to the risks of a debt build-up since 2016, when the now-infamous “authoritative person” publicly warned that China faced potential Japanisation.
But understanding a lesson is different from acting on it. While China clearly needs to wean itself off debt-fuelled growth, it is less clear why that hasn’t happened yet.
A view of the Evergrande Mingdu housing complex in Beijing on August 18. Chinese property giant Evergrande has filed for bankruptcy protection in the United States while the real estate crisis in China deepens. Evergrande defaulted on its debts in 2021, with total debts estimated at more than US$300 billion, making it the world’s most heavily indebted property developer. Photo: EPA-EFE
The answer lies in the mix of the Chinese debt cycle. During the first decade of Xi’s leadership, BIS data reveals that growth in corporate debt accounted for 47 per cent of the total increase in China’s indebtedness, the share of government debt was 30 per cent and household debt made up the remaining 23 per cent.
Researchers at the IMF have identified two main reasons for this debt surge: increased leverage of debt-intensive, low-return state-owned enterprises (SOEs) and a higher concentration of public indebtedness in local government financing vehicles. The former is a by-product of the unmistakable shift in economic power from the private sector back to the state sector under Xi’s leadership. The latter is an outgrowth of runaway land sales and property development, which have now hit a wall.
That gets to the essence of Zhu’s point about Chinese stimulus: enough is enough. By opting for surprisingly small measures, the Communist Party leadership is drawing a line in the sand.
Although the Chinese authorities would never openly admit to poor stewardship of the economy, increasingly worrisome debt dynamics in SOEs, combined with the possibility of a full-blown property-market crisis, have left them with no choice but to shift away from the current unsustainable growth model.
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Their decision has important implications for China’s economic future. Absent support from the property sector, which accounts for roughly 25 to 30 per cent of GDP, a Japan-like sustained shortfall of economic growth is a distinct possibility.
Mindful of this, the Chinese government has made yet another push for consumer-led rebalancing, with a 20-point plan released in late July. This should be music to my ears, but a careful look at the plan leaves me cold.
Specifically, the new consumer plan makes no mention of strengthening the social safety net – especially healthcare and pensions – for a rapidly ageing population. Yet, unless this urgent challenge is addressed, Chinese families will continue to opt for fear-driven precautionary saving over discretionary consumption.
Barring a successful consumer-led rebalancing, it will be exceedingly difficult for China to recapture its previous growth momentum. Since the 2008 global financial crisis, the economy has grown by about 7 per cent on average. If China’s growth rate slows to 3 to 4 per cent – a distinct possibility – its contribution to global growth will be halved, with obvious knock-on effects for the rest of the world.
While the media focused on Zhu’s prediction that the Chinese government would not roll out a massive stimulus, his main point at the WEF panel was that a growth shortfall would necessitate structural reforms – an argument I have also made over the years.
Yet the benefits of such reforms, if they do occur, are likely to be realised only in the long term, while the headwinds of China’s current shortfall are blowing fiercely in the here and now. As China’s most powerful leader since Mao Zedong, the increasingly powerful, security-focused Xi seems willing to accept this trade-off for the time being.
Stephen S. Roach, a former chairman of Morgan Stanley Asia, is a faculty member at Yale University and the author of Unbalanced: The Codependency of America and China, and Accidental Conflict: America, China, and the Clash of False Narratives. Copyright:Project Syndicate
