China’s Limited Choices to Revive its Struggling Economy

Hong Kong (CNN)-

Over the past few weeks, Chinese leaders and policymakers have been making frequent public declarations about taking additional actions to support the struggling economy. These statements often involve promises to back the struggling private sector.

Occasionally, these assurances have instilled confidence in investors, leading to an increase in stock prices.

However, more often than not, investors have not been significantly influenced by the multitude of official communications. They are now anticipating more concrete stimulus measures, which economic experts and analysts speaking to CNN believe are unlikely to materialize. This is due to China’s current high level of indebtedness, making it challenging to stimulate the economy as effectively as it did 15 years ago during the global financial crisis.

“We have already seen numerous vague commitments that haven’t yielded substantial results thus far,” explained Robert Carnell, the Asia-Pacific regional head of research at ING Group.

Apart from a few small measures to aid the property market, which is currently experiencing its most severe decline in history, and minor adjustments to interest rates, there have been minimal indications that the government is injecting actual funds into struggling consumers or businesses.

“Chinese policymakers seem hesitant to implement significant monetary or fiscal stimulus, likely concerned that doing so could worsen China’s escalating debt concerns,” stated Craig Singleton, a senior China fellow at the Foundation for Defense of Democracies, a non-partisan think tank based in Washington.

“At best, we can anticipate modest efforts, primarily focusing on the supply side, with the intention of attracting additional private investments and promoting the adoption of electric vehicles,” he further noted.

Following a promising beginning to the year following the easing of Covid restrictions, the second-largest global economy has experienced a decline in its pace.

Starting from April, a series of unsatisfactory economic figures and demographic data has raised worries that China could be entering a phase of notably reduced growth, and potentially facing a future akin to Japan’s.

Measures Needed

China’s economy hardly expanded during the April to June period compared to the preceding quarter, as the initial burst of economic activity following the relaxation of pandemic restrictions waned. Increasing signs of deflation are causing worries that China might be heading into a drawn-out phase of economic stagnation.

China’s exports shrank much faster than expected in May and imports fell, too. Manufacturers struggled to find demand abroad and domestic consumption remained sluggish. (Image Source:¬†cnsphoto)

Drawing lessons from Japan’s experience in the 1990s, there is a concern that China is potentially stepping into what’s known as a “liquidity trap.” This is a situation where monetary policies lose their effectiveness, and instead of spending money, consumers hold onto their cash. Alicia Garcia-Herrero, the chief economist for Asia Pacific at Natixis, a French investment bank, explained that this implies there’s a possibility that Chinese businesses and households, driven by their pessimism about the economic future, might choose to divest and reduce their financial commitments due to the decline in revenue generation.

Analysts suggest that Beijing needs to go beyond its words and take concrete actions to reinvigorate the economy.

Unlike developed economies, China opted for a notably restrained approach to Covid-era support, as highlighted by experts at UBS Global Wealth Management. Fiscal assistance, for instance, only amounted to a fraction of the aid provided in the United States, and there were no countrywide direct cash payments.

While this strategy aided China in avoiding the widespread inflationary impact observed in other places, the researchers noted in a recent report that disposable household income declined due to stagnation in wages and property asset values.

They emphasized that interest rate reductions alone are insufficient unless they are paired with fiscal measures that spur demand.

The analysts stated that a comprehensive policy combination, encompassing both monetary and fiscal stimuli, including initiatives in infrastructure, property, and consumer spending, alongside structural reforms, would be beneficial in reestablishing confidence.

Not Like 2008

The current direction of China’s economy is a source of significant worry for global investors and decision-makers who depend on it to propel worldwide growth. However, Beijing seems to have exhausted its resources.

Looking back to 2008, Chinese leaders introduced a fiscal package of four trillion yuan ($586 billion) to mitigate the impact of the global financial crisis. This move was viewed as successful, bolstering Beijing’s reputation both domestically and internationally, while also driving China’s economic growth to over 9% in the latter part of 2009.

Nonetheless, the measures, which were primarily centered on government-led infrastructure projects, also triggered an unparalleled expansion of credit and a substantial surge in local government debt. The repercussions of this are still being felt by the economy. In 2012, Beijing declared that it would not pursue this approach again due to its exorbitant costs.

China’s debt challenges have intensified during the Covid-19 pandemic. Three years of stringent restrictions and a downturn in the real estate market have drained the financial resources of local governments.

Analysts estimate that China’s outstanding government debts surpassed 123 trillion yuan ($18 trillion) last year. A substantial portion of this amount, around $10 trillion, constitutes what’s known as “hidden debt,” owed by risky local government financing platforms.

In June, Zhu Min, a former senior figure at the International Monetary Fund and a former member of China’s central bank, was quoted by Bloomberg as stating at the Summer Davos forum in Tianjin that he doubted China would introduce extensive stimulus efforts, given that the nation was already grappling with substantial debt levels.

“No major fiscal stimulus has been announced, which suggests that Chinese policymakers are still cautious about a rapid escalation in public debt,” remarked Garcia-Herrero.

Diminishing Returns

Even if Beijing were to take action, it wouldn’t be as impactful as in 2008, as pointed out by Garcia-Herrero.

“A fiscal stimulus driven by infrastructure would need to be considerably larger to generate a similar economic effect,” she noted.

This also implies that if measures are implemented, China’s public debt would significantly surpass the current 100% of GDP, which would position the economy as “one of the most indebted globally,” she further explained.

Making matters worse, under President Xi Jinping’s leadership, Beijing seems to have solidified its approach to enhancing the party’s control over the economy, according to analysts.

Derek Scissors, a senior fellow at the American Enterprise Institute, stated that a “right response” to the economic decline would involve Beijing returning to a pro-market reform trajectory and allowing the private sector to have a more significant role.

However, there are limited indications that the government is moving in that direction, he observed.

Singleton emphasized that China’s new economic leadership team lacks effective tools to substantially reignite growth.

He highlighted that Beijing’s unwavering, albeit expected, refusal to acknowledge how Xi’s economic management has contributed to exacerbating China’s challenges will significantly amplify the broader systemic risks the nation faces.

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Singleton further noted that the property sector is likely to hinder growth for years ahead, and coupled with the country’s concerning debt levels and hesitant consumers both domestically and internationally, the situation won’t improve either.

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