Friday 10 April 2009


LIQUIDITY IS NOT THE ANSWER

Andy Xie

China International Business, April 10, 2009

Liquidity has been inspiring hope lately. The Chinese mainland’s banking system is flooded with liquidity, and lending has increased massively since December, mostly in the form of discounted bills. The liquidity boom has inspired hope that a quick and vigorous recovery will follow. Instead, it could be a trap, leading to stagflation. China’s problem is not liquidity, but household demand. Reform, not liquidity, can bring back prosperity.

The current liquidity results from China’s huge trade surplus due to a faster decline of imports than exports. Banks have lent some of this extra liquidity to SOEs in the form of discounted bills. As the interest rate on such loans is very low, businesses can deposit the borrowed money without incurring significant costs and, sometimes, even pocket a small profit. The practice has rapidly expanded the balance sheet of the banking system from an accounting perspective.

Lending, however, won’t translate into demand any time soon. Most industries, especially capital-intensive ones, face overcapacity. The steel industry, for example, may have 30% overcapacity. The shipbuilding industry is seeing massive defaults on orders; many shipbuilders are facing bankruptcy. Most developers cannot sell their properties and, if given money to build more, would only dig a deeper hole for themselves. The Chinese mainland’s supply side has too much capacity. It is unlikely that more business loans would spark an economic recovery.

Lending to government projects can support demand. It serves as a multiplier on the fiscal stimulus program. Bank lending may double its impact. The government has budgeted a RMB 1 trillion (USD 146 billion) fiscal deficit, or 3% of gross domestic product, for 2009.

The stimulus could stabilize the economy but it won’t restart high growth. Exports and property were contributing six to eight percentage points to the annual GDP growth rate during the last cycle. They are now contributing a negative amount of a similar magnitude. No amount of stimulus could completely offset the impact of their contraction.

A big drop in exports, following the bursting of the global credit and property bubbles, is the cause of the shortfall in demand. To solve the problem, the government must boost household demand to offset export weakness, and reduce property purchase costs to clear the existing inventory. The Chinese economy cannot resume its high growth until both problems are solved.

(...) [artículo aquí]

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