China becomes the first big economy to start withdrawing pandemic stimulus efforts

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

China’s lawmakers have expressed concern about the housing market overheating and wish to avoid further imbalances. They are also eager to resume a multi-year campaign to reduce debt that started to grow during the previous global recession.

If mistreated, China’s tightening could hamper its recovery, which would hurt the global economy. China’s plans can also create broader problems if they trigger more debt defaults or a major correction in China’s stock markets, at a time when global investors are already nervous.

For these reasons, economists say, China is likely to move slowly, gradually restricting credit in certain parts of the economy, while avoiding more forceful moves, such as rising interest rates.

“It is very clear that China’s policymakers intend to lessen the stimulus and tighten policies,” said Ding Shuang, chief economist for Greater China at Standard Chartered Bank, “but they are moving forward carefully, without making a sudden turnaround.

China signaled its intentions during the annual parliamentary meetings held earlier this month. He set his target for 2021 of growth in gross domestic product at “above 6%”, a relatively low rate given the dynamics of the economy and a sign that Beijing wants flexibility to withdraw the stimulus in the coming months, economists said. The International Monetary Fund projects that China’s economy will grow by about 8% this year.

China has reduced its fiscal deficit target – the difference between government spending and revenue – to 3.2% of GDP this year, from 3.6% in 2020. A smaller deficit suggests a more restrictive fiscal policy. The government also cut the quota for special local government bonds, a type of off-budget financing to finance local investments like infrastructure, to approximately US $ 560 billion, compared to US $ 576 billion last year.

Beijing did not announce new issues of special central government bonds this year, after selling approximately $ 154 billion of those bonds in 2020.

“As the economy picks up growth, we will make appropriate policy adjustments, but in a moderate way,” Chinese Prime Minister Li Keqiang said at a news conference on March 11. “Some temporary policies will be eliminated, but we will introduce new political structures like tax cuts and fees to offset the impact. “

These movements followed previous steps and were interpreted by investors as a more restricted credit signal. In January, the central bank wiped out more liquidity than expected through daily open market operations, a tool used to control the money supply available to commercial banks. This briefly brought a key short-term cash rate to its highest level in five years, making it more expensive for banks to borrow.

To control rising property prices, China’s financial regulators recently imposed new rules that make it difficult to obtain new bank loans for real estate developers, who are often highly leveraged.

Broad credit growth accelerated in February, after falling for four consecutive months. Still, analysts expect loans to decline again due to recent signs from Beijing.

In contrast, last week the United States enacted a new $ 1.9 trillion economic aid package and the European Central Bank said it would increase its purchases of eurozone debt.

The different approaches reflect how Beijing sees the pandemic as a temporary interruption, while Western lawmakers are still trying to revive their economies and prevent long-term damage from the effects of the pandemic.

Beijing’s emergency measures last year included tax cuts to help small businesses and order banks to grant more loans. Still, China’s fiscal measures accounted for much less as a share of GDP than those of the United States and many developed economies.

At the end of 2020, China’s total fiscal spending on stimulating the pandemic was about 6% of its GDP, against 19% for the United States, according to IMF calculations.

China’s economy regained its pre-pandemic momentum in the last quarter of 2020, largely because of its success in containing Covid-19 and strong exports.

Now its leaders are more concerned with debt control and other long-term economic issues, analysts say. Last year, China’s overall leverage index, which measures the ratio of total debt to GDP, increased 24% – the fastest rate since 2009 – to 270%, according to official data.

Many economists expect the central bank of China, the People’s Bank of China, to control the pace of new credit issues instead of raising interest rates, which could attract speculative cash flows that can fuel dangerous asset bubbles. The central bank has pledged to keep its monetary policy prudent and flexible, avoiding flood-like stimuli.

“The market widely interprets the PBOC’s tone as more hawkish” than before, said Mr. Ding of Standard Chartered. This could lead to risks, he said, if inadequate communication leads to over-the-counter reactions from the market.

Another possible landmine is the more restricted credit potential to cause more defaults among state-owned companies. Many are highly indebted and local governments, which have their own debt problems, are increasingly cautious about rescuing them.

“As China abandons support measures, some of the problems that were overlooked last year may appear this year,” said Wang Tao, UBS economist for China. “We expect to see more corporate bond defaults and a higher default rate.”

Write to Stella Yifan Xie at [email protected]