China must boost fiscal stimulus as global and domestic challenges loom

Recent Chinese economic data and global trade figures are an early warning signal that global recovery is slowing in the face of several lingering problems
China should not turn to much looser monetary policy to get faster results, given that fiscal expenditure can be increased without great damage to government finances

David Brown

Published: 10:30pm, 4 Oct, 2021

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China needs to step up as the world economy shows more signs of growing duress. Global supply chain shortages, rising world energy prices, lingering Covid-19 uncertainties and ebbing economic confidence are adding weight to the notion of economic slowdown ahead.

China also has to face the challenge of potential market disruption on the home front, ready to contain any fallout from Evergrande’s debt saga. Critically, Beijing must be quick to stop the slowdown turning into a bigger rout. It’s the cue to keep its economic policy spigots wide open, not least with a bigger fiscal push while keeping in check any temptation to go for faster domestic credit expansion.

With the right policies in place, Beijing can easily insulate the economy from most downside risks and keep growth cruising at a steady 5.5 per cent to 6 per cent pace in the next few years. Stability is the key, as is continuing to build on the economy’s strengths.

Judging by recent business activity indicators, economic confidence in China is clearly feeling the strain. The latest manufacturing purchasing managers’ indexes from the National Bureau of Statistics and Caixin Insight Group show mainland business activity languishing around the boom-or-bust mark of 50.

It’s consistent with China’s factory sector generally maintaining a steady rate of expansion but well below the robust rate of recovery experienced earlier in the year as the economy bounced back from the worst of 2020’s Covid-19 emergency. Respondent firms indicated relatively subdued demand conditions and material shortages were weighing on production.

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Employment activity and new export orders both dipped below the critical 50 marker, suggesting domestic and external demand conditions remain vulnerable and in need of an extra lift.

The good news is that China capitalises on being a global manufacturing powerhouse and the top exporting nation, producing the goods the world needs and which most other major industrial competitors fail to beat on price or quantity. That is certainly the case with the United States, where excess domestic demand for consumer and industrial goods translates into rising exports from China.

It’s the driving force behind the US-China trade deficit, which is running at around US$330 billion on an annualised basis and showing little sign of major correction despite years of bitter trade disputes between the two nations.

Strong export performance has provided a massive boost to China’s economic rebound in the last year. The latest data indicates global demand for China’s goods surging by 25.6 per cent year on year to a record US$294 billion in August.

This rate of increase might not last for long, especially with recent signs that the robust upturn in world trade could be losing momentum. Figures from the CPB Netherlands Bureau for Economic Policy Analysis show world trade flows fell by 0.7 per cent over the last three months to July, compared with the February-April period. The 2021 boom in world trade growth might have passed its peak.

It’s an early warning signal that global recovery is beginning to cool. It is also a vindication that Beijing is right to turn its growth model away from dependence on exports and towards a more durable, domestic-driven formula in the future under its “dual circulation” strategy.

So far this year, China’s gross domestic product growth rate has slowed sharply from 18.3 per cent in the first quarter to 7.9 per cent in the second quarter, with expectations looking at a further slowdown in growth during the third quarter. It makes a strong case for more intervention to stop the slide extending any further.

China’s shrinking factory activity ‘sounds alarm’ on mounting risks

Beijing should be able to do better than the 5.25 per cent average forecast for GDP growth expected by the International Monetary Fund over the next five years, but it will take extra effort on the part of fiscal stimulus to maintain the positive momentum going forward.

In fact, there are signs that Beijing might be falling behind the curve on what is needed this year, with accumulative fiscal expenditure in the first eight months to August only up 3.6 per cent from a year ago. But this could easily be increased without too much damage to government finances.

Beijing should maintain steady interest rates and resist the temptation to turn to much looser monetary policy to get faster results. Excessive domestic credit expansion has led to the sort of problems epitomised by the Evergrande debt saga. A shift towards ultra-low interest rates should be avoided at all costs.

David Brown is the chief executive of New View Economics