Decelerating growth and financial instability
As for overall growth, shocks experienced by China with the outbreak of the global financial crisis of 2008 was followed by a smart recovery with the GDP growth rate touching 10.7% by 2010.8 Efforts on part of the state to revive the economy by injecting a sum of $585bn (or nearly one-fifth of China’s GDP) in 2008, along with other measures worked to recover the growth rate, while in the stock market the Shanghai composite index also moved up to 3471 by August 4, 2009. The recovery turned out a short-lived and by 2011 China started facing the signs of a weakened investment climate along with a long- drawn downswing in the economy. By then the country had entered a phase where the earlier pattern of an insulated financial sector backed by the high growth economy had given way to an alternate scenario where instability of markets and deceleration of output became a reality. By 2012 growth in China’s GDP had decelerated to 7.9% to be followed by 6.1% and even lower by 2019— 2020‘The declining GDP growth along with the noticeable changes in capital flows indicated a change in investment climate of the country. By this time Chinese residents had started investing abroad which resulted in FDI outflows while net portfolio inflows to China were on the rise, both reflecting a new wave of speculation in the economy. Increases in speculative activity were also reflected in the rising levels of derivative trading in the economy.
De-regulated finance in China was also responsible for steady expansions in the country’s debt, especially held by the corporate sector. The country’s aggregate stock of debt rose to an astounding 255.7% of GDP by 2017. Of above the stock owned by corporate sector alone was at 160% of GDP10 (Olsen, 2018). The debt/GDP ratio for the economy, which went up by 48.7% between 2012 and 2017, led one of the world’s big three credit ratings agencies, Moody’s, to cut China’s rating by one notch from Aa3 to Al. Incidentally, it was the first time that the agency downgraded the country since 1989 (BBC, 2017).
Looking back, the large stimulus package in 2008—2009, channelled through the state-owned banks (SoBs), and used to finance borrowings by local governments for infrastructure, generated speculation in the real estate and housing markets by availing easy credit offers from banks. Credit for real estate transactions, which was not legal for the formal banking sector, were often met by shadow banks. The changed investment climate also impacted banks in China which started selling the Wealth Management Products (WMPs) for the public.
As already mentioned above, the changes as above indicate the advances of speculation in China — affecting housing prices, the domestic stock markets and the exchange rate of the RMB. That speculation in the economy was already prominent could also be confirmed in the changing pattern of capital flows to the country, with inflows of portfolio capital replacing more stable inward FDI and with increasing FDI outflows by Chinese residents.11 Speculative trading was also reflected in the rising volume of derivative trading12 by these years. Incidentally, speculation continued to be rampant in the Chinese economy despite the official clamp- down on housing/real estate markets and on underground credit networks (Yongding 2011).
Chinas integration into the global financial network, especially the strong links to the US economy, made it difficult for the country to have autonomy in economic policies.The constraining factors included Chinas bilateral trade surpluses with the United States, the FDI (as well as portfolio) inflows originating from the United States, and the dollar value of China’s official reserves in US Treasury bonds. Net inflows of foreign currency (especially dollar) with the twin surpluses in external account, did not, affect the exchange rate of RMB due to official purchases of US dollar from the market. The proceeds of those purchases mostly used to purchase US Treasury bonds, while contributing to the already large official reserves of China, was also responsible for an equivalent release of local currency in the economy — thus depriving the government of monetary autonomy. The policy options as were left to the monetary authorities in China plunged them to the ‘trilemma’ of a loss of monetary autonomy when exchange rates are managed in the face of free capital flows. (Sen 2013: 258—259). Incidentally, when the three parameters in the ‘trilemma’ (consisting of the exchange rate, capital flows and monetary policy), are all open to risks under uncertainty possibilities of capital flights generate tendencies, for emerging economies, to hold excess stocks of official reserves, largely with a precautionary motive. The dimension, added to the trinity, has been described as a ‘quadrilemma’ in the literature (Aizenmann 2013).
China too, facing the trilemma, was saddled with too large official reserves in US dollar, especially as long as the dual surplus in the payments balance could continue. Additions to official reserves leading to increases in high-powered money (MO) were followed by additions to М3.The latter was responsible for initiating‘inflation targeting’on part of the monetary authorities. As confirmed by statements from the PBoC, with foreign exchange the major source of base money supply central bank lending to financial institutions accounts for a smaller share (and) the independence of monetary policy is undermined thereby. (Xiaolian, 2010).
One can notice that with inflationary tendencies in China, measures were initiated to curb prices between 2011 and 2012 by using higher interest rates and reserve ratios along with open market policies. China’s GDP growth met with a sharp downslide starting in 2011 .The drop touching 6.1% by 2019 and even lower in the current year,13 was related to factors which not only included the slump in the overseas export market, but also inflation targeting, as above. With inflation continuing, markets driven by uncertainty along with the RMB rate subject to US negotiations with China, policymakers there were facing a difficult choice this time, of controlling inflation in an economy with stagnant growth performance (Reade and Volz 2012). However, with GDP growth sliding, less attention, if at all, could possibly be paid to austerity and inflation targeting in the economy (Sen 2014b). Of course, China in the meantime had moved to a policy of‘new normal’growth (Yesmin 2019) which aimed to avoid the dependence on the recession-prone West (as well as Trump-led trade war).
Difficulties in pursuing an autonomous monetary policy, did surface in China many a times in recent years, initially with the financial crisis of 2013-2015 when the exchange rate was sliding down.The problem has been compounded recently by the US stricture on exchange rate stability' of the RMB, which was announced as a part of the on-going deal in the Trump-led trade war (Yongding 2019; Me Dowell and Steinberg 2019).This has put the policymakers in China in a quandary, especially with global financial market subject to the uncertain measures of the Fed regarding the QE. Also attempts by PBoC to maintain a ‘two-way flexibility’ of the currency since 2011 has turned out as infeasible (BIS, 2014). Problems at present are aggravated with the out-break of the novel Corona virus which affected China severely.
As for managing the RMB, recognised as a potential reserve currency, it’s movements were under the scanner, especially with a downward trend in the RMB rate since 2013 when renewed pressures came up from US to avert further depreciation; given the earlier US complaints which branded China as a ‘currency manipulation’. It was well recognised that if China ever unloads US securities, there could be chaos in the financial market, which could even initiate a drop in the dollar rate.
China’s integration with the global economy, while making way for the country to attain a major status in the global economy by attaining unprecedented heights of GDP growth, net exports, capital inflows and exchange reserves, also has brought in a sequence of vulnerabilities which has started reversing the upward growth path. Of other factors, a major policy move which can be held responsible for the onset of the retardation in the economy include the accelerating pace of de-regulation in the financial sector. We have discussed above the onset of the destabilising forces in China’s economy, much of which can be linked to the steady' dismantling of regulations in the financial sector, as pointed out in the post-Keynesian writings on similar issues. Uncertainty and related risks as followed prepared the grounds for the financialisation of the economy where real activities gave way to finance as the major form of activity. Retardation of the economy has been a major consequence of the process. While the future path of China’s economy, as with the rest of the global economy' remains an unchartered territory in terms of predictions, it remains to be seen that policy' makers in China are in a better position to fetch the benefits of favourable geo-political bonuses in terms of the Belt Road Initiatives and the related trade and investment prospects. Above, combined with the rising purchasing power of workers having higher wages in the country, may even enable the domestic market to compensate the shrinking exports in the recession prone and protectionist overseas market. The revived space of the domestic economy may even help in regulating the market and protecting it from the vagaries of uncertainty as at present. But predictions to that effect remain indecisive which we refrain from predicting.