Strategies for Aiding China's Economic Recovery

In the beginning of this year, a Chinese publisher released a Chinese language version of "In Defence of Public Debt", a book written by Barry Eichten green from the University of California, Berkeley and other authors. The text explores the advantages of government borrowing that have often been overlooked. According to Eichengreen, if a nation is too fast to put fiscal control in place, it can lead to a decrease in growth and deflation, which makes it more difficult to pay off the debt. The translated version of the book is very timely, as economists think the Chinese government's fiscal prudence this year has caused slower growth and the threat of deflation.

 China's government has taken the unusual step of revising the budget deficit target from 3% to 3.8% of GDP. To help with repaying expensive debt, provinces have been granted permission for the issuing of "refinancing bonds". Financial regulators have suggested that banks meet the "reasonable" financing needs of property developers, without favouring private ones. Discourse revolving around "three major projects" has been more frequent: affordable housing, leisure facilities that could help in natural disaster and emergency situations, and renovations of "urban villages" or former rural areas.

 Nevertheless, these steps may not be enough to achieve the desired outcome. Houze Song from MacroPolo, a research organization, expresses concern that the stimulus package may not be sufficient to bring back the economy. It appears the government is more concerned about providing too much aid than not providing enough. In China, public debt is viewed with some skepticism, even among those who support it. Those who advocate for borrowing are cautious to not come across as too forceful. The Chinese version of Eichengreen's book is titled "Global Public Debt: Experience, Crisis, Response" rather than the more direct title, "In Defence of Public Debt".

 The government's fiscal hesitancy may be due to ideology, or it may be due to experience. Fifteen years ago, China's government declared a 4trn yuan fiscal boost in reaction to the global financial crisis. Financial administrators additionally gave permission to local authorities to get around limitations on their borrowing by creating financing vehicles that could issue bonds and borrow from banks. Christine Wong of the University of Melbourne mentioned that local governments responded with great enthusiasm to the extra borrowing. In the two years that followed, the initial 4trn yuan increased to 9.5trn yuan (or 27% of 2009 GDP).

 The revival of growth through stimulus measures was a success. Nonetheless, in the years since, the use of stimulus in China has become a negative concept. Government officials have repeatedly cautioned against a "flood-like" approach to economic slumps. It has been contended that the surge in lending has benefited state-owned enterprises to the detriment of manufacturing investment and research and development spending in industry.

 Lin William Cong of Cornell University, and his co-authors explored the impact of increased credit availability in 2009 and 2010 by examining confidential loan data from 19 banks. The results showed that state-owned enterprises were favoured over private firms, and those private firms that engaged in less productive capital use were preferred. The authors suggested that banks may have chosen to lend to companies with the backing of local governments, regardless of how efficient they were. Jianyong Fan from Fudan University, and his co-authors proposed that spending on R&D by industrial firms was reduced due to the higher costs of capital in areas where local governments borrowed the most. This was likely because the new party secretaries in these regions wanted to demonstrate success.

 It is simple to reach the conclusion that the 2008 stimulus was an error after reading these studies. However, the shortcomings of the response don't indicate that it was worse than nothing. The report from Mr Cong, for instance, does not show that the extra availability of credit was a disadvantage for private businesses, but rather that it provided less of a benefit than it did for state-owned companies. Also, Mr Fan and his team's study of R&D accounts for each locality's expansion rate. This implies that if the stimulus augmented growth, and growth aided R&D, this helpful outcome will be taken away from their findings.

 Despite the gargantuan amount of stimulus money injected into the market, private firms were not left wanting for credit, according to Nicholas Lardy of the Peterson Institute for International Economics. Statistics indicate that lending to private firms expanded rapidly during 2009 and 2010, and investment by private manufacturers was also strong. Zheng Song of the Chinese University of Hong Kong, who co-authored an important paper on China's fiscal expansion, suggests that the stimulus money merely displaced the accumulation of foreign assets, such as the American Treasury bonds purchased by the Chinese central bank.

 Government payment

 A stimulus check is a payment released by the government to help financially during difficult times.

 Despite the relaxing of financial restrictions on local governments, their finance-related activities still created a "long shadow", according to Mr Song's paper. These organizations have wound up with debts that appear difficult for local governments to settle, further complicating the existing economic issues in China. Similar to many other economists, Mr Song thinks the next stimulus should be administered differently, such as providing direct aid to households. As an example, Mainland China could use a system similar to the digital consumption vouchers employed in Hong Kong, which will expire if not used in a short amount of time.

 Fifteen years later, the consequences of the huge amounts of lending by China in 2008 demonstrate the need for better economic stimulus measures, not none whatsoever. As highlighted in Mr Eichengreen's book, public borrowing to revive a faltering economy can have a challenging fiscal outcome. This, however, is not the same thing as claiming that "not borrowing would have been preferable".