China will be the first major economy to begin withdrawing pandemic stimulus efforts

The shift puts China at the forefront of meeting a challenge that other economies will face in the coming years as their economies recover: how to withdraw stimulus measures without eradicating growth or causing wider market instability.

Chinese policymakers have voiced concerns about an overheated housing market and want to avoid widening imbalances. They are eager to resume a multi-year campaign to stem the debt created during the previous global recession.

If China’s tightening is handled incorrectly, it could stunt the recovery, which would shrink the global economy. China’s plans could also lead to bigger problems if they lead to more defaults or a bigger correction in China’s stock markets at a time when global investors are already nervous.

For those reasons, economists say, China is likely to move slowly and gradually tighten credit in certain areas of the economy, while avoiding more blunt moves such as raising interest rates.

“It is very clear that Chinese policymakers intend to phase out stimulus and tighten policies,” said Ding Shuang, chief economist for Greater China at Standard Chartered Bank, “but they have moved cautiously without a sudden turnaround. “

China has made its intentions known at annual parliamentary meetings held earlier this month. She set her target for gross domestic product growth by 2021 at “above 6%”, a relatively low rate given the momentum of the economy and a sign that Beijing wants flexibility to withdraw stimulus measures in the coming months, said economists. The International Monetary Fund predicts that the Chinese economy will grow by about 8% this year.

China lowered its budget deficit target – the difference between government spending and revenues – from 3.6% in 2020 to 3.2% of GDP this year. A smaller deficit indicates a more restrictive fiscal policy. The government also lowered the quota for local government special bonds, a form of off-budget financing to fund local investments such as infrastructure, to about $ 560 billion, from $ 576 billion last year.

Beijing has not announced any further issuance of special government bonds this year, after selling about $ 154 billion worth of such bonds in 2020.

“As the economy grows again, we will make appropriate policy adjustments, but in a moderate manner,” said China’s Prime Minister Li Keqiang at a press conference on March 11. policies such as tax and fee cuts to offset the impact. “

Those moves followed earlier steps and were interpreted by investors as a sign of tighter credit. In January, the central bank amassed more liquidity than expected through daily open market operations, a tool used to control the money supply of commercial banks. That quickly brought a significant short-term interest rate to the highest level in five years, making it more expensive for banks to borrow money.

To curb rising real estate prices, Chinese financial regulators recently imposed new rules, making it more difficult for developers, who are typically highly indebted, to get new bank loans.

Broad credit growth picked up somewhat in February, after falling for four consecutive months. Still, analysts expect credit to slow again, given recent signals from Beijing.

By contrast, the US introduced a new $ 1.9 trillion economic aid package last week and the European Central Bank said it would boost its purchases of eurozone debt.

The different approaches reflect how Beijing views the pandemic as a temporary disruption, while Western policymakers are still trying to revive their economy and avoid long-term damage from the pandemic’s effects.

Beijing’s emergency measures last year included cutting taxes to help small businesses and ordering banks to lend more. Still, China’s fiscal measures as a percentage of GDP were much less than those of the US and many developed economies.

At the end of 2020, China’s total fiscal spending on pandemic stimulus measures was about 6% of GDP, compared to 19% for the US, according to IMF calculations.

The Chinese economy had recovered its pre-pandemic momentum in the last quarter of 2020, largely thanks to its success in containment of Covid-19 and strong exports.

Now its leaders are more concerned about debt management and other long-term economic problems, analysts say. Last year, China’s total debt ratio, which measures the ratio of total debt to GDP, rose 24% – the fastest pace since 2009 – to 270%, according to official data.

Many economists expect China’s central bank, the People’s Bank of China, to moderate the pace of new credit issuance rather than hike key interest rates, risking attracting speculative flows of money that could spark dangerous bubbles. The central bank has pledged to keep its monetary policy prudent and flexible while avoiding flood-like stimulus.

“The market is widely interpreting PBOC’s tone as more aggressive than before,” said Standard Chartered’s Mr. Ding. That could lead to risks, he said, if inadequate communication leads to overreaction in the marketplace.

Another potential landmine is the potential for tighter credit to trigger more defaults in state-owned companies. Many are heavily indebted, and local governments, with their own debt problems, are increasingly reluctant to pay them off by heart.

“As China is leaving the support measures, some of the issues that were covered up last year may come to light this year,” said Wang Tao, China economist at UBS. “We expect more corporate bond defaults and a higher bad credit ratio.”

Write to Stella Yifan Xie at [email protected]