Exclusive Seminar with Dr. Huang Yukon Go back »
2014-04-04 | Beijing
On 2nd April, the European Chamber invited Dr Yukon Huang, Senior Associate, Carnegie Asia Programme, to give a presentation on China’s Third Plenum and its Growth and Debt Prospects.
Dr Huang began by pointing out two key issues facing China—the surging debt levels that have led many to warn of an impending financial crisis, and the slowdown of economic growth. According to his analysis, China’s longer-term objectives cannot be realised unless growth can be stabilised at around seven per cent. He believed that the Third Plenum attempted to resolve these issues.
To simplify the Third Plenum, he broke it down into a ‘one-two-three’ model.
'One’ refers to the single principle of having the market play a decisive role in allocating resources. He explained that this requires sound institutions and competitive markets. However, these do not yet exist in China, especially for labour, land and capital, which is why it must be a top priority.
'Two’ signifies the two newly-established leading groups focusing on security and the economy. The fact that President Xi Jinping took charge of both of these groups shows his intent to contain the surge in domestic mass protests while maintaining economic progress.
'Three’ relates to three themes—urbanisation, restructuring of SOEs and the realignment of central and local governments. He argued that better-managed urbanisation could promote productivity and urban-rural equality. Restructuring SOEs could reduce the profitability gap between state and private firms. Reforming decentralised administration will support both economic and political objectives and will fundamentally change the relationship between Beijing and the provinces.
He explained that China’s budget needs to play a larger role. As a socialist market economy China’s social expenditure only accounted for nine per cent of GDP in 2008, while the proportion in high-income OECD countries was 27 per cent.
The statistics he presented also demonstrated how China’s fiscal system was misaligned. In 2011, central-level government collected 49.4 per cent of tax revenue, but its direct expenditure only accounted for 15.1 per cent of the total. Beijing centralised tax power but decentralised expenditure in order to assume less responsibility, and it is this incentive structure that fundamentally caused the problems.
He recommended financial reforms that would promote competition between banks, strengthen other capital markets, eliminate the current bias that favours state banks and borrowers, and generally improve the regulatory system. He also suggested developing capital markets to support more flexible but not necessarily higher interest rates. He rebutted the commonly-held idea that the interest rate in China is too low, and said that it is, in fact, too high. He went as far as to predict that if China does liberalise the interest rate, as many people have suggested, China could easily fall into a financial crisis.
He felt that the Third Plenum’s reform plans will not alter perceptions about China’s imbalanced growth. However, he expressed his opinion that imbalance was not necessarily an issue. Declining GDP with an increased share of investment could be a positive thing rather than negative. The decline in the share of consumption to GDP, he said, was driven by China’s western provinces. He said that this kind of imbalanced growth does not occur in coastal areas, and it was the national strategy of ‘Develop the West’ that drove an increase in investment and led to inefficiency. Urbanisation and privatisation, he said, will worsen imbalances.
He then switched his focus to the debt issue. He agreed that the local government debt has become a risk, but it is not the destabilising factor. Central government debt is even lower, and he found that household debt only counted for a small proportion. The real problem is corporate debt, to which shadow banking has been a contributing factor. Nevertheless, considering its share of total financial assets, it is still very low compared with other developing countries, as well as the US and Europe.
Conclusion
After going through an artificially-created doomsday scenario, Dr Huang concluded that China is not as vulnerable as the other crisis countries. Rapid rising of debt is serious but manageable, and China’s debt is largely domestic, backed by enormous reserves and savings and supported by trade surpluses. The solution lies in sustainable GDP growth of at least seven per cent along with tighter financial policies and fiscal reforms.
China must restore pre-stimulus productivity growth. In order to achieve this goal, it must implement Third Plenum reforms, including actions such as shifting resources from state to private investment, implementing a more efficient urbanisation process, and restructuring regional investment strategies. Together, these actions could add one to two percentage points to current underlying growth of 6.5 per cent.
