Three Takes on China to Start a New Year

Christopher Balding (Balding’s World) highlights the risks from the interaction between PBOC tightening—whether because China’s own economy has picked up or a need to mimic the Fed’s tightening cycle —and rising levels of debt (mostly corporate debt, counting the debts of state enterprise as corporate) in a carefully argued Bloomberg view column.

Adair Turner’s column “A Socialist Market Economy with Chinese Characteristics” emphasizes how surprised many were by China’s 2016 rebound: “Almost all non-Chinese economists anticipated a significant slowdown, which would intensify deflationary pressures worldwide. In fact, the opposite has happened. Central and local government borrowing in China has soared: bank and shadow-bank credit has grown rapidly: and the People’s Bank of China (PBOC) has increasingly issued direct loans to state-owned banks in a maneuver closely resembling monetary finance of government spending."

Turner highlights the risks of large losses from the bad lending that has come with rapid credit growth, while—correctly in my view—noting that financial crises ultimately come from a run on the liability side of the balance sheet.

Turner also notes that even if a quarter of China’s investment is unproductive, the three-quarters that is invested productively still equals about a third of China’s GDP. That alone would drive a strong expansion in China’s stock of useful capital. I like to be reminded just how unique China is.

I have my own take out as part of the Council on Foreign Relations’ look at global economic issues at the start of the new year.

I was less surprised than many by China’s 2016 rebound, though there isn’t much of an electronic record to document my views. I thought that China’s 2014-2015 slowdown was in no small part a consequence of a poorly timed policy decision to tighten “off balance sheet” fiscal policy (by limiting local government financing and infrastructure investment) when real estate investment was in the doldrums. Since I viewed the 2014-2015 slowdown more as a function of policy tightening than as a direct consequences of the underlying weaknesses in China’s growth model, I also believed that policy easing was likely to support growth—even if I would have preferred more of the easing to come through a larger rise in the central government’s headline fiscal deficit and less through the usual off-balance sheet funding channels.

While both Balding and Turner emphasize the risks created by China’s rapid credit growth, I put more emphasis on what I view as the more fundamental problem: China’s exceptionally high level of savings.

Such high savings -- now that productive investment opportunities have shrunk a bit as the easy catch-up gains fade -- generates an underlying, structural weakness in demand growth. And until the savings rate falls, making up for the weakness in household demand requires getting demand from exports, from credit fueled investment, or from fiscal deficits. I still like a line from my paper on Asia’s savings glut: “A national savings rate that still approaches 50 percent of output increasingly implies either bubbles in credit domestically or large capital surpluses that have to be exported.”

In my view, durably ending China’s reliance on credit for growth without giving rise to massive trade surpluses that create (additional) global problems requires the kind of reforms that bring savings down and consumption up—not just policy tightening.