China’s central bank should be more like the Fed, top researcher says
- The rapid rise of local government borrowing is the biggest systemic risk in China today, CASS researcher Zhang Bin says
- Beijing should take its lead from the US Federal Reserve and adopt a more aggressive monetary policy
The world’s second-largest economy has for decades relied on debt-fuelled growth, and the biggest systemic risk in China today is the rapid rise of local government borrowing to fund their operations and infrastructure investment, according to Zhang Bin, deputy director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences (CASS).
“China’s current situation is dependent on fiscal policy, especially a broad fiscal policy, which is being used too much,” he said in a blog post published on Friday.
“If you think China has too much liquidity, don’t attribute it to monetary policy. Under our broad fiscal policy, local governments have borrowed heavily, creating a large amount of credit demand, hence adding more liquidity.”
“Given the strong recovery under way, policy tapering is likely to continue. As a result, bond defaults are set to rise and might spook the market,” Larry Hu, chief China economist at Macquarie Group, said in a note last month.
“The bottom line is that policy tightening in 2021 will be milder than in 2018, but it’s still tightening,” he said.
But Zhang said China should avoid fiscal policy expansion at times of economic downturn and instead consider a proactive monetary policy similar to that used by the US Federal reserve to boost consumption and growth.
“By stimulating aggregate demand in this way [through monetary policy], the economic structure will be much better. In this way, on the one hand, under lower interest rates, the value of assets held by the private sector will be higher; on the other hand, the cost of debt [will be reduced],” he said.
“The poor are most unlucky when the economy goes badly, and this is actually the case in China. The quantitative easing policy [in the US] has actually played a very important role in achieving inflation targets, employment targets and helping low-income groups to improve their incomes.”
Zhang also criticised the PBOC’s message to the public and financial markets.
“The [Chinese] monetary authorities have a lot to learn about communication,” he said. “The signal must be clear, the wording must be scientific and the expression must be accurate.”
China’s National Institution for Finance and Development, a government-linked think tank, put the nation’s overall debt at 270.1 per cent of GDP at the end of 2020, up from 246.5 per cent a year earlier.
Hit by business losses from the pandemic and the need to fund central government mandates to support the economy, many local governments have had difficulty repaying their debts.
Zhongtai Securities said on Thursday that 17 of China’s 31 provincial-level governments last year saw their debt ratios rise above 100 per cent, the safety limit set by the Ministry of Finance.
“According to our calculations, [the overall] local government debt ratio was about 97 per cent at the end of 2020, and may exceed 100 per cent by the end of this year,” it said.
China’s finance ministry said last week the central government needed to control new local government bonds in high-risk regions and clamp down on local governments’ hidden debt – the off-budget borrowing that is not included in overall debt ratios.
As of the end of 2020, China’s outstanding local government debt was 25.66 trillion yuan (US$3.91 trillion), it said.
Estimates of hidden local government debt vary, with Nomura putting the figure at about 38 trillion yuan last year – based on reports from the PBOC – while a researcher at the National Institution for Finance and Development told Bloomberg that the figure was 14.8 trillion yuan.
Last month, the State-owned Assets Supervision and Administration Commission of China published guidance on debt and risk management after a series of defaults by local government-owned enterprises last year.
“The guidance strengthens the central government’s ability to respond to such situations by promoting more uniform and effective supervision and intervention by regional and local governments,” ratings agency Moody’s said.