BANGKOK -- Every time economists expect China to implement a stimulus package, they are disappointed. Financial markets are calling for pump-priming measures as the Chinese economy shows stronger signs of a slowdown, but the government has not responded. President Xi Jinping's leadership even calls the slow growth the "new normal" and accepts the situation. The leadership is aiming to transform the economic structure that focuses on quantity to one that centers on quality and is reluctant to increase investment. But question remains whether this is true.
The National Bureau of Statistics announced on Jan. 20 that China's gross domestic product grew 7.4% in 2014, the slowest pace in 24 years. Economists in Hong Kong expect the government to finally implement stimulus measures. China's retail sales in 2014 grew 12% on the year, a little down from 13.1% in 2013. Consumer prices posted a 1.5% year-on-year increase in December, but wholesale prices declined 3.3%. Housing prices continue to fall. This data clearly shows that the Chinese economy is under deflationary pressure. Still, no massive monetary easing or fiscal spending has been introduced.
The day after the announcement, the online version of the People's Daily and the Xinhua News Agency reprinted a commentary titled "Do not interpret 'new normal' with old perspectives" by a leading newspaper in Guangdong Province. The commentary warns that China should not aim for faster growth or larger quantity and that the focus of economic management is not stimulus measures but higher quality and efficiency. It also argued that the number of new jobs is increasing at a satisfactory pace thanks to the expanding service industry. There is little doubt that the commentary reflects the Xi leadership's view on the economy.
It seems convincing enough at a first glance, but giving a lot of thought makes it less so. Transforming the economic structure requires weeding out old and inefficient industries, which will result in many people losing their jobs. Fiscal spending is essential to ease the pain of reforms. The growth rate is believed to have been lower than 7.4% in coal-producing Shanxi Province, which has become a target of the government's anti-corruption drive, and Heilongjiang Province, which is home to many state-run firms. Flexible monetary easing may be needed to tackle deflationary pressure.
Why is the leadership reluctant to implement stimulus measures? Reports by Standard Chartered Bank provide help to find an answer. The bank's research division calculates the debt-to-GDP ratio of major economies every year. This ratio compares what a country's government, companies and households owe to what the country produces. As of June 2013, Japan's ratio was a staggering 409%, while that of China was 208%. One year later, China's ratio surged to 251%, coming in close behind the U.S. and the U.K.
China's ratio stood at 147% at the end of 2008, meaning that it has soared over the past six years. This is mainly because of the side effects of the 4 trillion yuan (around $585 billion at the time) stimulus package adopted after 2008. There has been a general understanding that China weathered the global recession with the massive fiscal spending, but reality is different. Marubeni Research Institute Senior Economist Takamoto Suzuki said that China has managed to implement stimulus measures without increasing the central government's debt.
Beijing takes fiscal health seriously and has avoided large-scale spending to prevent its fiscal deficit from expanding. Instead, local governments borrowed money from banks and spent it on infrastructure projects. More than half of the funds for the 4 trillion yuan package were covered by loans. Local governments kept on borrowing by setting up financial vehicles that take out loans on their behalf. The outstanding debt by regional authorities expanded from 11 trillion yuan in 2010 to 18 trillion yuan in 2013.
Once banks started reducing loans, financial vehicles and infrastructure development companies issued corporate bonds to raise funds from the private sector. So-called shadow banking expanded. What accumulated as a result of stimulus measures in the post-Lehman shock era wasn't debt by central and local governments but debt by companies. The ratio of Chinese government debt to GDP is around 30% and it hasn't risen much after the global financial crisis. Many economists estimate the ratio to be between 60% and 90%, even when debt held by local governments is taken into account.
China seems to enjoy far better fiscal health than Japan, whose government debt is equivalent to 230% of its GDP. But it looks different when company debt is included. State-run firms and financial vehicles of regional governments have taken out large loans. If they become insolvent, the central government will have to spend public money to stabilize the financial sector just like when it injected massive amounts of public funds to dispose of nonperforming loans held by banks in 2003.
Some analysts go so far as to say Chinese government debt is equivalent to 200% of GDP if one takes into account debt in the shadow banking system, which is higher than Greece's 175%. Though Chinese leaders do not mention it, they are aware of the massive debt. They apparently think further expansion of the debt will pose a risk and refrain from pump-priming measures by citing various excuses. The truth is that China is not avoiding such measures -- it cannot afford them. Even if a further slowdown forces the government to introduce them, the scale will be small.
China's slowdown is causing prices of oil, coal, iron ore and other natural resources to fall and dealing a blow to resource-dependent emerging economies. A global demand shortage originated in China is raising fears for a crisis like the Great Depression in the 1930s. The world's second-largest economy may face growing calls for measures to spur demand that are worthy of its economic size. But Chinese leaders must be feeling that they have done enough in the "post-Lehman" era and cannot do more because if they push themselves too hard, it could be their turn to collapse. The world cannot count on China anymore.