By Dr Dan Steinbock
Until recently, the conventional wisdom was that China’s contribution to global reflation would be increasingly accompanied by those of the US and Europe. Yet, the realities may defy this anticipation.
Reflation and its connotations
Usually, the term ‘reflation’ is used to describe the first phase of economic recovery after a period of contraction. More recently, ‘global reflation’ has been deployed to refer to the post-crisis past decade, which has been characterised by lingering recovery from the global crisis despite ultra-low rates and quantitative easing.
During the global crisis, China accounted for much of global growth prospects, while the US, Europe and Japan coped with the great recession. Even today, China continues to drive a disproportionately large share of global growth.
However, as deleveraging has now started in the mainland, China can no longer raise future optimism single-handedly.
From debt to deleveraging
Deleveraging includes the selling out of assets for repayment of loans, thereby, easing the debt burden. Today, China faces a debt challenge, however, it has evolved significantly in just a decade. While China’s growth can still be supported by catch-up growth and productivity, it is untenable over time.
In 2007, China’s total debt was 136%, of which most were private non-financial debt (115%). By 2015, Chinese debt had soared to 221% of GDP, of which most could be attributed to private debt (205%) as opposed to central government debt (16%).
China could continue to take in debts which would eventually end in a crisis, as evidenced by many advanced economies. Nonetheless, since late 2016, the central bank has adopted a tighter monetary stance. Indeed, recent data on the decline of total social financing and broad money supply suggests that the deleveraging has begun.
What caused a surge in the Chinese debts?
China’s debt burden is the result of the 2009 stimulus package which contributed to infrastructure but unleashed huge liquidity and speculation and the 2016 credit expansion which heated property markets despite tougher regulations.
Setting aside excessive leverage, both surges have had beneficial impacts internationally. The 2009 stimulus ensured global growth prospects and probably spared the world a global depression. The 2016 credit surge allowed China to stabilise economy and markets which, in turn, supported lingering recovery globally.
The big question is: If China accounts for much of recent global reflation, can it be sustained as deleveraging accelerates in the mainland?
Growth prospects: A mere sham?
In the recent past, there were great hopes about sustained ‘global reflation’. Last year, the Trump triumph in the US elections unleashed great expectations about the coming of fiscal expansion, tax reforms, and deregulation. As a result, markets soared, which lifted confidence internationally. Thereafter, European recovery has been faster than in years. All this can be attributed to the outcomes of the French election, expectations of a ‘soft Brexit’, and Chancellor Merkel’s anticipated victory in the German election later in the fall.
Today, half a year later, it is clear that Trump’s fiscal expansion will move ahead far slower than anticipated and the administration’s credibility, perhaps even its future, is likely to be suppressed by the impending Mueller investigation, while the Federal Reserve is planning a third date hike in the fall.
In Europe, rising confidence ignores the fact that current growth rates remain predicated on ultra-low rates and billions of euros for quantitative easing on a monthly basis. It underestimates the adverse impact of the lingering Brexit story, the challenges associated with the French President Macron’s proposed labour reforms, as well as the potential implications of the struggling two mid-sized Italian banks. It is a recovery that, at least for now, relies on artificial lungs.
In the past decade, much of global growth prospects and recent global reflation can be attributed to China. In the next few years, China will continue to support global economic integration through the One Road and One Belt and such other initiatives. However, it can no longer fuel global growth and reflation on its own.
Thus, the open question is whether the advanced economies have really surpassed secular stagnation and if they are willing and able to do keep up their share in the global growth prospects.
Dr Dan Steinbock is the founder of Difference Group and has served as research director at the India, China and America Institute (USA) and visiting fellow at the Shanghai Institutes for International Studies (China) and the EU Center (Singapore).
Featured Image Credits: Visual Hunt