Saturday, Jul 22, 2017, 8:55 AM CST – China


China needs to coordinate its new fiscal and monetary policies

A major reason why small and medium-sized businesses struggle to access financing is that the financial system remains in thrall to big State banks

As China’s economic growth rate has continued to slow in the first quarter of 2015, the country’s leadership continues to look for ways to achieve economic restructuring while avoiding a hard landing.

With stagnation in the country’s exports resulting from rising labor costs and a decline in demand for Chinese-made goods in the developed world, the government is now looking inward for a new source of growth.

At a Politburo meeting on April 30, the leadership outlined two sets of policies it will adopt to boost economic growth and achieve economic restructuring.

The first entails adopting a “balanced” monetary policy to promote an influx of capital into the real economy, and while officials did not elaborate on specific details, this was widely interpreted to mean that the government will continue with its relatively liberal recent monetary policy.

China’s central bank has already lowered the interest rate and the statutory deposit reserve ratio twice in 2015, and economists believe that both rates will be lowered again in the coming months. By injecting more capital into the economy, it is hoped that a more liberal monetary policy will help China’s money-thirsty small and medium-sized businesses, and support the country’s innovation-oriented “Made in China 2025” strategy.

However, to achieve this goal, China will need to conduct an overhaul of its financial system. A major reason why small and medium-sized businesses struggle to access financing is that the financial system remains in thrall to big State banks, which lend money almost exclusively to big State companies, many of whom have monopoly power in their respective industries.

For a liberal monetary policy to be effective, China needs to liberalize its financial system as well. Not only should the government allow private capital to enter the industry, but it should also encourage the establishment of small and community-level financial markets.

The leadership also promised in the meeting that it would adopt a more “proactive” fiscal policy by increasing public spending and reducing overall corporate tax. Officials also re-emphasized the importance of investment in boosting the economy, outlining seven sectors where the government would launch major investment, including information technology, power infrastructure, energy, health and elderly care, and industries related to environmental protection.

In implementing the policy, the government must learn from its previous investment strategy. China launched a US$4 trillion investment package in 2008 to boost the economy in the wake of the global financial crisis. While the package proved effective in boosting short-term economic growth, it has resulted in an array of new problems, such as massive over-production in various industries.

China’s future investment should have long-term objectives like improving the competitiveness of the economy and promoting domestic consumption. For example, by investing in the education infrastructure of its less developed regions, China can achieve multiple goals, including improving the skill level of its labor force and reducing regional wealth disparity.

Moreover, the government needs to coordinate its monetary and fiscal policies to ensure that capital and investment will move into the desired sectors and industries. Otherwise, the combination of a liberal monetary policy and increasing investment may exacerbate the existing problems of inefficient use of capital and excessive production capacity. 


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