The tools exist to rescue China’s economy and it’s time to use them

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The writer is chief China economist at UBS Investment Research and author of ‘Making Sense of China’s Economy’

In January, China reported official real gross domestic product growth of 5.2 per cent for 2023, but the Shanghai Composite index fell to its lowest level in five years. China’s property market has continued to fall and consumer spending is still lacklustre (notwithstanding record holiday travel and movie box office takings during the lunar new year holiday). Business confidence remains low and foreign direct investment has shrunk sharply. 

What can China do to boost confidence? While using national funds to buy blue-chip stocks might support equity markets in the short term, what is really needed are measures to revive the economy, raise corporate earnings and restore business and household spending. Next week’s National People’s Congress would be a good time to announce such measures.

However, there is a lack of consensus in Beijing on the key factors behind the current weakness. Most think that China’s economy is in transition, moving from a growth model that relied heavily on property and debt-fuelled local government investment to one that will rely more on innovation and domestic consumption. This will be painful and slow, given the weight of the property sector, high local government debt, a falling population and the tech restrictions imposed by the US and its allies. There are also deeper causes of weak confidence: Chinese officials point to the decoupling pressures, while investors highlight earlier regulatory tightening and an uncertain policy environment.

Market economists also point to shorter-term factors and the lack of macro stimulus. The property policy tightening in 2020-21 and Covid-19 helped trigger the property market downturn from its unsustainable levels of construction and debt. Fiscal policy tightened in most of 2023 as local governments cut general spending and were unable to increase debt to fund investment. Weak demand exacerbated excess capacity issues, leading to declines in price and earnings, which in turn weakened corporate investment.

Both short-term macro policy support and medium-term structural policies are now needed to boost the economy and confidence. Stabilising the property market is key to restoring confidence and preventing more menacing spillover effects on the economy and financial system. Credit support to property developers will improve buyer confidence, as well as allaying defaults.

A more co-ordinated, government-led property debt restructuring effort could also help limit the damage of the downturn. Further easing home purchase restrictions in mega cities, additional cuts in mortgage rates and minimum down payments, and further relaxation of the hukou system (household registration) in cities with more than 3mn people will help boost housing demand. 

To encourage domestic spending, the government may need to deploy a fiscal stimulus of 2 per cent of GDP or more to subsidise household consumption, increase social spending, and fund infrastructure investment. Further interest rate cuts and liquidity injections would help lower the mortgage and corporate debt service burden and, together with looser credit policies, drive credit demand. 

The Chinese authorities have been tentative in easing monetary policy due to the rise in US rates and depreciation pressures on the renminbi. But lowering rates together with a convincing economic support package would boost currency confidence. The benefit of rate cuts is likely to far outweigh the negative impact of modestly widening the US-China rate gap.  

Given China’s transition away from its old growth model, the property market is unlikely to recover its past form and macro stimulus alone will not generate sustained growth. A successful transition to a new growth model will require structural reforms. 

Even if Beijing is hesitant to directly subsidise consumption, it could structurally increase healthcare spending to boost long-term confidence and household consumption. A deepening of hukou reform would increase labour mobility and rural migrants’ access to public services, increasing their spending power and housing demand. 

On the local government side, monetising state assets and finding sustainable financing for long-term spending, including on infrastructure, should be implemented together with debt restructuring. A more stable and transparent regulatory environment, lower barriers to entry and better legal protections for investors would also boost private sector involvement.

China’s government has the tools at its disposal to overturn the current downturn, but its success will depend on timely action, policy co-ordination and political will. 

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