BEIJING -- The People's Bank of China, the country's central bank, and the Ministry of Finance are trading blame over an economic slowdown brought on by efforts to cut China's debt. The rare public spat also highlights the country's deep-rooted problems with bad loans.
In mid-July, Xu Zhong, head of the central bank's research department, issued a report in his own name saying that China's fiscal policy is rather tight. To call the Finance Ministry's policy expansionary without an increase in fiscal deficit was "fraud," Xu said.
As evidence, Xu cited figures showing that the deficit fell to 2.6% of gross domestic product in 2018 from 3% in 2017, and that tax revenues are growing faster than the economy as a whole. He also criticized the ministry's delays in disclosing information, saying it was reminiscent of the planned-economy era.
Just days after Xu published his report, a Finance Ministry official, writing under the pseudonym "Qingchi," attacked Xu's paper, saying that focusing on the fiscal deficit was too simplistic. The official also took a shot at the central bank, saying the bank's efforts to internationalize the yuan have been at a standstill and that the bank's thinking was like that of a small country.
At the heart of the dispute is the government's deleveraging drive. Since the start of the year, the leadership under President Xi Jinping has instructed local governments and state-owned companies to reduce their debts, and it has tightened restrictions on the so-called shadow banks in hopes of staving off a financial crisis.
The policy appeared sound, but then the trade war with the U.S. broke out. Beijing's attempts to cushion the blow of debt reduction with more exports, which drove China's growth last year, came up short. The central bank and Finance Ministry are split over whether heavier fiscal spending or monetary easing should be used to prop up the economy.
Xu could not have published the report without the permission of senior officials at the bank. Most are thought to agree with him.
The ministry, for its part, thinks the bank picked a fight with it because the bank is taking criticism for its debt-reduction drive. The deleveraging campaign is far from popular with local governments, which have been forced to halt infrastructure building due to a lack of funding. The city of Leiyang, in China's inland Hunan Province, has had trouble paying its employees, due largely to the lending crunch, according to a local Communist Party official.
Bad debts are a big part of the problem. Banks have used shadow banking system to keep off their books low-profitable high-risk loans for local infrastructure projects.
Experts had expected the stricter rules on shadow banking sector to force banks to take those loans back and increase capital. Xu acknowledged in his report that state-owned financial institutions would require an injection of public funds. The key question is how to dispose of the bad loans to local governments and companies affiliated with them.
Beijing's restrictions on local government debts have resulted in a lot of borrowing being swept under the rug. The Finance Ministry has repeatedly tried to disavow these debts, but Xu feels this is wrong. He insists that if the authority does not take responsibility for their debts, the central government should step in and inject public funds into banks. Qingchi countered, saying that determining whether such capital injections were a priority, even though the government adopt a proactive fiscal policy, requires careful examination.
In the end the State Council, headed by Premier Li Keqiang, in late July called on the central bank to provide more liquidity and for the Finance Ministry to increase infrastructure spending. Reforms meant to rein in China's debt are on hold for the time being.