In recent weeks, Beijing has announced a flurry of stimulus measures—or intentions to implement them—as concerns about China’s economy grow.
The central bank has cut various lending rates, lowered cash reserve requirements at banks, and offered more liquidity to the stock market. Officials also hinted at local government debt relief and a sluggish property market.
But the government has yet to reveal a solid plan for a massive fiscal bazooka that would put more money in consumers’ pockets to revive demand. On Saturday, a highly anticipated report by the Finance Ministry further disappointed economists because it only signaled that there was significant room for greater government spending and then suggested further measures that could be announced later.
After China’s property market bubble burst several years ago, consumers became reluctant to spend and signs of deflation began to appear. But because of their disdain for “welfare,” China is reluctant to offer large amounts of direct aid to consumers.
Instead of making massive fiscal transfers like the US did during the pandemic in the form of stimulus checks, China has instead relied on a decades-old strategy of prioritizing industrial production over other strategies, triggering a flood of production at home and exports abroad. .
Without further help from the demand side, China’s interest rate cuts could actually worsen the economy by exacerbating the problem of deflation. The main reason is that China’s growth still depends more on production and investment than consumption, unlike in the US
So while a cut in interest rates from the Federal Reserve might trigger more borrowing by Americans to buy cars or other big-ticket items, that’s not the case in China.
According to Peking University finance professor Michael Pettis, China’s financial system is aimed primarily at the supply side of the economy. Specifically, credit is directed through businesses, state-owned enterprises, local governments, and the national government for infrastructure, property, and manufacturing, he wrote in an Aug. 21 note to the Carnegie Endowment for International Peace, where he also serves as a senior fellow not resident.
The result of the additional money supply is an increase in the output of companies which are then forced to compete more fiercely on price.
“That’s probably why the combination of a highly inflationary global environment and China’s rapid credit and monetary growth in China is associated with deflation—not inflation,” Pettis explains.
In an Aug. 7 interview on CNBC, he also touched on demand issues in China, saying household incomes were growing slowly while economic uncertainty was making them reluctant to spend.
On the supply side, Chinese manufacturers are highly competitive, largely due to weak household incomes, Pettis added.
Zongyuan Zoe Liu, a China expert at the Council on Foreign Relations, also warned of industrial overcapacity in the countryOverseasmagazine recently.
“Simply put, in many important economic sectors, China produces far more output than overseas markets can sustainably absorb,” he said. “As a result, China’s economy risks being trapped in a disastrous cycle of falling prices, bankruptcies, factory closures and, ultimately, job losses.”
As profits shrink, companies increase production higher and lower prices to make enough money to pay their debts, Liu explained, adding that priority sectors set by the government also sell products below cost to meet political goals.
This dynamic has disrupted global market stability with a flood of cheap Chinese export goods and had negative impacts in the form of stiff tariffs. The domestic market is also characterized by overproduction and intense price competition that risks tipping the economy into deflation, Liu warned.
“By analogy, while China’s dynamic e-commerce sector may offer consumers a wealth of choices, in reality, large platforms such as Alibaba, Pinduoduo and Shein compete fiercely to sell the same commodity products,” he said.