It is not an exaggeration that some in the market has been frustrated by the fact that the Chinese government has been very much behind the curve in stimulating the economy.
Despite a lot of talks about fine-tuning, local government announcing craps, and PBOC cutting rates and RRRs a bit, there has been nothing substantial that is able to make the market excited.
Worse still, we start to think that monetary policy is currently too tight, mainly because the old mechanism of base money creation has been broken, and possible new mechanism has not been started.
Barclays Capital thinks that the commonly cited reasons (which do not seem to include the above reasons) for government’s inaction can be summarised in three these:
- Policymakers are turning a blind eye on economic risks;
- The leaders are too busy to make any economic policy because of the leadership transition; and
- The government has run out of money
For the first one, we think it is not true. For the second one, we have no idea. For the third one, it is plain wrong, as we outlined previously that unless the government deliberately put a constraint on its own spending, there is no reason to believe that the government cannot find the money necessary to fund stimulus.
So what is holding the government back?
Our view regarding the slowness of policy response is that because the previous round of massive stimulus has been widely regarded as a huge mistake, the government is not very likely to repeat that unless the economy deteriorates much more. Also, the real estate market has proved to be more resilient, and the two interest rate cuts in the previous months have fuelled the expectation that the market has bottomed (with regional differences, of course). We also believe that as food prices could be on the rise in near term, headline inflation could tick slightly higher, making the government and the central bank even more hesitant in going all-in to stimulate the economy.
Barclays Capital think that there are three broad reasons why the government is not aggressive:
First, government officials’ assessment of macroeconomic trends remains mixed, which might not be sufficient to trigger aggressive policy responses.
In 2008, the government was forced to take decisive actions to stop the free fall of the economy. But the stimulus package was widely criticised for contributing to low investment returns in infrastructure, fiscal risks associated with local government borrowing, potential non-performing loans and asset bubbles following dramatic credit expansion and worsening of economic imbalance problems (higher investment share of GDP).
Despite growth deceleration for six quarters, the Chinese economy is still expanding at an above-7% rate. Granted, slower growth hurts profit margins and market sentiment. But these are among the natural consequences to be expected when the government decided to tolerate slower growth.
Second, the combination of likely delay of growth recovery and possible bringing forward of inflation pickup complicates economic policy decisions.
In the past, we have highlighted the importance of a stable job market. Policymakers can often remain calm if there are no massive job losses. During the first seven months of this year, not only did urban employment increase, but wages also grew.
One recent development that makes it more difficult to introduce additional growth supporting measures is the likely earlier-than-expected pickup of inflation pressure. In July, for instance, while the year-on-year CPI eased to 1.8% from 2.2% in the previous month, the month-on-month CPI rose sharply to 0.1% from -0.6% (Figure 1). This rebound was caused mainly by rising food prices, directly or indirectly linked to the recent surge in corn and other food prices in the US and international food markets.
Source: Barclays Capital
There are also several domestic factors, such as wage growth and liquidity conditions, that could contribute to a rapid increase in inflation pressure. In a recent monetary policy report, the PBoC said it expected inflation pressure to pick up significantly after August.
And, finally, lack of clear policy direction from the top reduces effectiveness of policies supporting growth, as government agencies focus on their own agendas.
Lack of clear instruction from the top, such as from the Politburo or the State Council, has also reduced the effectiveness of such policies. For instance, NDRC has approved more investment projects, but investors are not always able to obtain bank credit. The PBoC is concerned about future inflation and, therefore, monetary policy easing is likely to remain limited. The China Banking Regulatory Commission (CBRC) is worried about credit quality and, therefore, maintains tight risk controls on commercial banks. Even the Ministry of Finance (MOF) is reluctant to take further measures such as increasing spending or cutting taxes.
This article originally appeared here: 3 things that delay Chinese government stimulus, according to Barclays
Also sprach Analyst – World & China Economy, Global Finance, Real Estate
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