Economic Insights
Battening Down the Hatches
Battening Down the Hatches <br/>嚴陣以待

Weaker Loan Growth <br/>信貸增長疲弱

Deficit Spending Comes Earlier This Year<br/>今年較早錄得赤字開支

Infrastructure Bond Issuance Approaching Quota<br/>基建債券發行接近限額

These days, there is no lack of gloomy warnings on the global economic slowdown, as well as headlines reporting that the Chinese economy is growing at its slowest pace in nearly three decades. 

At the same time, world leaders and central bankers seem to have developed a kind of recession-phobia that has resulted in a determination to fight any potential economic downturn. 

At its September meeting, the European Central Bank decided to cut the interest rate on the deposit facility further into negative territory, and restart its EUR2.6 trillion (HK$22.4 trillion) asset purchase programme at a monthly pace of EUR20 billion, starting from 1 November. The programme does not come with an expiry date and is expected to run for “as long as necessary.” 

On the other side of the Atlantic Ocean, the Federal Reserve in July reduced its target federal funds rate for the first time in more than a decade, in what Chairman Jerome Powell called a “mid-cycle adjustment.” The Fed subsequently lowered the rate again in September by another 25 basis points to 1.75%-2%, despite the unemployment rate in the U.S. remaining at a near-historic low of 3.7% in August. 

As for Mainland China’s economy, an array of measures has been introduced to spur growth, which eased to 6.2% in the second quarter from 6.4% in the previous quarter, amid the escalating trade tensions between China and the U.S. since early 2018. The trade war has come about at a time when the Chinese economy has already been on a slowing trajectory for almost a decade. 

In September, the People’s Bank of China (PBoC) reduced the amount of cash that banks must hold by lowering the reserve requirement ratio, injecting RMB900 billion (HK$993 billion) into the market during September to November so as to increase liquidity. That was the third similar move this year, indicating that policymakers at PBoC are increasingly worried about the current state of the economy, as growth in outstanding RMB loans has softened in recent months despite monetary easing (Figure 1). Meanwhile, the one-year Loan Prime Rate was reduced narrowly from 4.25% to 4.2%. 

The reason behind the slower credit growth is twofold. First, banks are reluctant to lend because of the expected higher default risk as the economy is slowing. Second, corporate demand for capital is sluggish as companies are delaying major investment until the outlook is clearer. Therefore, monetary easing alone may not be sufficient to stimulate the real economy. 

On the fiscal front, the Central Government announced in March a package including cuts in taxes and other fees that aims to save businesses about RMB2 trillion. Highlights among these measures include: the value-added tax rate covering the manufacturing sector was cut from 16% to 13% effective from 1 April, and the share of enterprise contributions to employees’ insurance was also reduced from 20% to 16% starting 1 May. 

Consequently, the fiscal balance fell into deficit earlier this year than it did last year, with a year-to-date deficit in July of RMB1.8 trillion, more than tripling the amount recorded a year earlier (Figure 2). 

Compared to the 4-trillion RMB stimulus programme – including mega infrastructure projects – implemented during the global financial crisis that was later regarded as the culprit contributing to industrial overcapacity and piling up of debt, tax cuts should have less negative side effects in terms of resources misallocation. 

Although the Central Government initially refrained from returning to its old recipe for economic growth, evidence suggests that it has started to ramp up spending on infrastructure again in recent months. The quota for local governments’ special bond issuance, which exclusively fund infrastructure projects, was set at RMB2.15 trillion for 2019, compared to RMB1.35 trillion last year. In the first eight months of the year, RMB2 trillion worth of special bonds had already been issued, accounting for 93% of this year’s quota (Figure 3). 

Recent data indicates that the Chinese economy has been facing increased pressure. Industrial production expanded 4.4% year-on-year in August, the slowest pace since February 2002. Growth in retail sales and investment also edged down, reinforcing views that Beijing would move more boldly soon to meet the economic growth target of 6%-6.5% set for this year. 

Compared to decades earlier, major economies around the world have invented new tools to stimulate economic growth. However, such pro-growth policies will not come without a cost. 

In China, the Central Government lifted its official budget deficit target to 2.8% this year from last year’s 2.6%; while the deleveraging campaign over the past few years to curb excess credit has come to a halt, as the total debt-to-GDP ratio rose to almost 250% at the end of June 2019 from 243.7% at the end of last year. The world has become more unpredictable lately, and Beijing’s balancing act has become more difficult than ever.