By Yu Yongding*
China’s GDP growth rate has been declining since the first quarter of 2010. After more than 40 years of breathtaking growth, it is not surprising that China’s economy has lost some of its momentum. After a steady decline from 10.6 percent in 2010 to 6 percent in 2019, it remains to be seen whether growth in China will continue to decline and at what level it will stabilize.
Some in China argue that the slowdown in economic growth was inevitably caused by long-term structural factors. Others argue that to avoid a financial crisis, China made reducing its debt ratio a priority, even at the expense of growth. But while the role of structural issues is acknowledged, the continued decline in China’s GDP growth rate is in large part due to China’s premature exit from expansionary fiscal and monetary policies amid unreasonable fears of financial instability.
The steady decline in the growth rate does not show the inevitability of China’s economic decline. It’s actually a self-fulfilling prophecy. A lack of determination to implement anti-cyclical policies will permanently damage China’s growth potential – which in turn will weaken its financial stability.
In early 2022, COVID-19 eased in China. The consensus is that China’s macroeconomic policies should aim to stabilize GDP growth. For the first time in many years, the Chinese government has set a GDP growth target of 5.5 percent for 2022. In early 2022, the economy was off to a good start until the Omicron variant arrived in Shanghai in March.
China’s consumer spending, measured by total retail sales of social goods, grew 6.7 percent year-on-year in the first two months of 2022. However, they fell by 11.1 percent and 6.7 percent in April and May. Chinese fixed asset investment growth also slowed significantly.
The only consolation came from international trade. In May 2022, the growth rate of exports was 16.9 percent while that of imports was 4.1 percent, meaning that the growth rate of net exports was very high. But this growth pattern was neither sustainable nor desirable.
In the first quarter of 2022, China recorded a year-on-year growth rate of 4.8 percent, which is rather disappointing. The GDP growth rate for the second quarter is even more disappointing at 0.4 percent.
Compared to other economies, China’s inflation rate is still moderate. The Consumer Price Index (CPI) rose just 2.1 percent in May. China’s producer price index (PPI) was 6.4 percent in May. While that number is still worrying, it has halved since its peak in October 2021.
The biggest challenge for China’s economic growth is to recoup the loss in growth since March and return to a growth rate not far from the 5.5 percent target for 2022. China has no choice but to stimulate the economy with an expansive fiscal and monetary policy. Statistics just released show that the government is doing just that
Given weak consumer and investment demand and the difficulties faced by small and medium-sized enterprises, the Chinese government may need to adopt even more accommodative fiscal and monetary policies. However, the implementation of this policy will pose a number of challenges.
The implementation of expansionary fiscal and monetary policies is being constrained by the pandemic and China’s anti-COVID-19 strategy. Supply chain disruptions cannot be solved by fiscal and monetary policy alone, no matter how expansionary. The biggest challenge for China is to balance the fight against the COVID-19 pandemic with economic growth.
While the People’s Bank of China (PBOC) continues to ease monetary policy, the Federal Reserve is accelerating its monetary tightening. The tightening of key interest rates between China and the US has led to an increase in capital outflows and a depreciation of the RMB, despite China’s large current account surplus. China needs to keep an eye on the RMB exchange rate and cross-border capital flows. But a floating exchange rate and some level of capital controls should be enough for the PBOC to preserve monetary policy independence and ensure financial stability.
Inflation could be an issue with China’s high PPI. But due to weak consumer and investment demand, PPI inflation has not yet translated into CPI inflation.
Due to the Ukraine war and tighter sanctions against Russian oil and gas, energy and food prices could continue to rise. As the world’s largest trading nation, China’s manufacturing products are heavily dependent on imported parts and components. Higher prices for intermediates in the United States and other advanced countries will be reflected in China’s price indices. China should regain some of its growth momentum. However, if the downward pressure on inflation caused by weak aggregate demand is eased, China’s inflation could deteriorate rapidly. China may have to learn to live with a higher rate of inflation as the top priority for the Chinese government is to end the gradual but steady decline in GDP growth rate.
Despite many pandemic-related setbacks in early 2022, China should be able to do better in the second half of 2022. Importantly, China’s long-term growth prospects are still rosy.
*About the author: Yu Yongding is a senior fellow at the Chinese Academy of Social Sciences and a former member of the Monetary Policy Committee of the People’s Bank of China.
Source: This article was published by the East Asia Forum
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