Opinion

Goodbye deleveraging: Fiscal and monetary expansion to support growth in China

China has opted for a renewed fiscal and monetary stimulus to address the risk of the US-led trade war. The dual policies send a clear signal that economic growth is the priority, but such measures do not come without a cost. Deleveraging efforts will have to be put on hold for the time being.

By: , and Date: August 23, 2018 Topic: Finance & Financial Regulation

This piece has been published in

Against very clear headwinds due to the trade war and decelerating investment, China’s State Council has unveiled plans to take a more aggressive fiscal policy in 2018 with a reduction of corporate and household burden by 1.1 trillion yuan. In the whole year, tax reduction will amount to 800 billion yuan for enterprises and individuals, which is equivalent to 5.5% of total tax revenue in 2017. This includes the adjustment in value added tax, the reduction in corporate tax rate of manufacturing, transportation, and other industries, and the rebate from research and development expense. Another 300 billion yuan will come from reducing non-tax burden on costs in logistics and utilities. The total amount is roughly equivalent to the reduction in corporate burden from the US tax reform of $150 billion (1 trillion yuan).

Such incentive does not come without cost. On the funding side, the Chinese government will accelerate the issuance of local government special bonds for infrastructure financing. Such action is echoed by the People’s Bank of China (PBoC) through the earlier three cuts in the Reserve Requirement Ratio (RRR). It is also reported that Chinese banks will have a laxer “structural parameter” in the Macro Prudential Assessment (MPA), which essentially means more room for credit growth.

The dual fiscal and monetary policies send a clear signal that economic growth is the priority. An expansionary fiscal policy and a reduction in tax revenue mean stronger government intention to support the economy. But without facilitating measures, the new fiscal package will have to drive up interest rate and crowd out private investment. This is where monetary policy comes into place.

There are two consequences of the changed monetary tones. First, a faster credit growth can maintain abundant liquidity and low interest rate to support the private sector. The earlier three RRR cuts and expanding types of MLF collaterals already suggested an accelerated liquidity easing tone, with which the market quickly reacted with a rapid renminbi depreciation. The liquidity condition in conventional markets, such as the interbank and bond market, has also improved. SHIBOR 3M, the interest rate offered by 18 commercial banks in the interbank market, moved down from 4.91% in December 2017 to 3.17% in July 2018. This indicated the liquidity pressure for financial institutions, especially the large banks has eased.

Second, laxer monetary condition can ease the default risks due to liquidity crunch, which is particularly important against the backdrop of the recent crackdown on shadow banking. The reduced risk appetite of investors and the concern on more defaults also push the PBoC to include lower rated assets as the collaterals of the MLF.

Another recent development that undermines the risk appetite of investors is the problematic peer-to-peer (P2P) lending. The growth of P2P lending has plateaued at 956 billion yuan as of July 2018. And the number of normal operating platforms for online loans fell to 1,645 due to liquidity pressure and problem in asset quality, hampering the confidence of the financing channel. Together with the rising bond default risks, this has made the financing conditions for small corporates even more difficult.

Whilst total social financing seems to have stabilised so far, down the road, we expect it to accelerate in the second half of 2018 as a consequence of the RRR cuts and the MLF expansion. All of this is necessary to avoid higher rates making it even more difficult to finance the fiscal stimulus and to reduce the crowding out of private investment. All in all, China has opted for a renewed fiscal and monetary stimulus to address the risk of the US-led trade war. Forget about deleveraging efforts for the time being.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint.

Due to copyright agreements we ask that you kindly email request to republish opinions that have appeared in print to communication@bruegel.org.

View comments
Read article Download PDF More on this topic

External Publication

Manufacturing employment, international trade, and China

The decline in manufacturing employment is often seen as a major reason for rising inequality, social tensions, and the slump of entire communities. With the rise of national populists and protectionists in recent years, the issue has become even more prominent.

By: Uri Dadush and Abdelaziz Ait Ali Topic: Global Economics & Governance Date: November 28, 2019
Read article More on this topic More by this author

Opinion

Hong Kong’s Economy is in Danger of Further Contraction

Approaching the end of a volatile year, Hong Kong continues to face the triple whammy of slower growth in mainland China, the trade war uncertainty and social unrest.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: November 21, 2019
Read article Download PDF More on this topic

Working Paper

The state of China-European Union economic relations

More can be done to capture the untapped trade and investment opportunities that exist between China and the EU. China’s size and dynamism, and its recent shift from an export-led to a domestic demand-led growth model, mean that these opportunities are likely to grow with time.

By: Uri Dadush, Marta Domínguez-Jiménez and Tianlang Gao Topic: Global Economics & Governance Date: November 20, 2019
Read article Download PDF More on this topic

Working Paper

How does China fare on the Russian market? Implications for the European Union

China’s economic ties with Russia are deepening. Meanwhile, Europe remains Russia’s largest trading partner, lender and investor. An analysis of China’s ties with Russia, indicate that China seems to have become more of a competitor to the European Union on Russia’s market. Competition over investment and lending is more limited, but the situation could change rapidly with China and Russia giving clear signs of a stronger than ever strategic partnership.

By: Alicia García-Herrero and Jianwei Xu Topic: Global Economics & Governance Date: November 18, 2019
Read about event More on this topic

Past Event

Past Event

The role of China in global value chains

This event looked at how the rise of China is affecting global value chains.

Speakers: Alicia García-Herrero, Seamus Grimes, Margit Molnar and Guntram B. Wolff Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: November 18, 2019
Read article More on this topic More by this author

Podcast

Podcast

Cars, steel and national security: The EU-US trade spat

Guntram Wolff is joined by Alan Beattie, the author of the FT's new Trade Secrets newsletter, and by Andre Sapir, Bruegel's very own trade expert to discuss President Trump's tariffs and whether or not they're working

By: The Sound of Economics Topic: Global Economics & Governance Date: November 14, 2019
Read article More on this topic

Opinion

Why sentiment in Greater Bay Area is deteriorating, especially in Hong Kong

Lack of concrete plans affects sentiment after brief surge on announcement of Outline Development Plan for the Guangdong-Hong Kong-Macao Greater Bay Area

By: Alicia García-Herrero and Gary Ng Topic: Global Economics & Governance Date: November 13, 2019
Read article More on this topic

Opinion

Upbeat outlook from Chinese banks' profits masks growing problems for small banks

The performance of Chinese banks has been resilient so far, despite decelerating growth. While the performance of large banks remained steady, the rebound came from small banks. Why have small banks rebounded and is the rebound sustainable?

By: Alicia García-Herrero and Gary Ng Topic: Global Economics & Governance Date: November 12, 2019
Read article More on this topic More by this author

Opinion

Why investors should temper optimism over a China trade rally

The economy is in worse shape than in 2015 and policies to boost growth are not as effective as they once were

By: Alicia García-Herrero Topic: Global Economics & Governance Date: November 6, 2019
Read article More on this topic

Blog Post

China’s growing presence on the Russian market and what it means for the European Union

The European Union’s relationship with Russia is strained, but the two economies are nevertheless highly intertwined. A huge share of Russia’s exports go to the EU, while in the early 2000s, EU countries supplied more than half of Russia’s imports. The EU is also a major investor in, and lender to, Russia.

By: Alicia García-Herrero and Jianwei Xu Topic: Global Economics & Governance Date: November 6, 2019
Read article More on this topic More by this author

Opinion

Bolsonaro’s pilgrimage to Beijing

A strategic alliance between Brazil and China could be music to the ears for both leaders, but Bolsonaro does not want to look like one more vassal. Xi Jinping might need to think of a more exclusive offer to the President of the largest economy in Latin America.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: October 29, 2019
Read article More on this topic

Blog Post

Implications of the Japan – United States Mini Trade Agreement

Details of the US-Japan mini-trade deal are lacking but the agreements’ direct impact on the US and Japanese economies is likely to be minuscule. The deal seems to have been made to compensate American farmers – a crucial electoral base of the President – for their losses from the trade war with China.

By: Sybrand Brekelmans and Uri Dadush Topic: Global Economics & Governance Date: October 11, 2019
Load more posts