China’s leaders are finally acknowledging the challenges the country faces after economic reports showed a steady erosion in confidence by consumers and investors. Last week, China’s central bank eased monetary policy and announced unprecedented measures to support the stock market, while the Politburo pledged to boost government spending to stabilize the property market.
Traders and investors responded enthusiastically to the announcements. The benchmark CSI 300 index had its best week since 2008, and the rally continued this week. According to Bloomberg, the stock market is now in a technical bull market, with about a 25 percent increase.
Previously, China’s equity markets had been among the worst performers globally after having fallen from their early 2021 peak by 45 percent. Bank of America’s latest Global Fund Manager Survey showed growth expectations for China were at a three-year low, and the report stated that “avoid China” had become one of the biggest themes of investors it surveyed.
The policy shift began with China’s central bank announcing a toolbox of measures to stabilize capital markets. They included simultaneous cuts to the benchmark interest rate and reserve requirement ratio and a new war chest of more than $100 billion to lend to market participants to boost stocks. This was the first time such an action has been used to support capital markets.
Two days later, President Xi Jinping called a special Politburo meeting that concluded with a promise to stabilize the real estate market. According to Reuters, the government will issue an additional $284 billion of bonds, which is equivalent to about 1.5 percent of GDP. Half of the proceeds will be used to backstop local governments, while the other half will encourage spending by households and businesses.
This occurred after new home prices fell in August at the fastest pace in 10 years. Government statistics show that prices for new and existing homes are down by 5 percent and 8 percent, respectively, over the last three years.
Optimists are comparing the government’s support to the “bazooka” package China used during the 2008 global financial crisis. The initial stimulus was set at more than $568 billion, but the final tally eventually reached approximately $1.34 trillion over two years. It is widely credited for China leading the global recovery in 2009-2010. This experience is the primary reason that China watchers have been clamoring for added stimulus now.
But there is a diversity of views among prominent investors.
U.S. fund manager David Tepper called the package a “buy everything” moment for Chinese stocks considering how cheap they are. However, hedge fund manager Ray Dalio said China’s leadership has reached a “fork in the road” where they need to make a series of “difficult and painful changes” to tackle the structural debt problem undermining its economy.
My take is that investors need to be cautious. The stock rally is likely to continue for a while as the measures exceeded expectations and will buy time for policymakers to address China’s economic problems.
However, I am skeptical of the view that China is experiencing a cyclical slowdown. Rather, the problems over the last decade are structural in nature and will require fundamental reforms of the economy to put it on sounder footing.
John Authers of Bloomberg observes that China now has symptoms of a “balance sheet recession” similar to what Japan experienced in the 1990s. China has seen a protracted period of property declines and a large debt overhang in which household debt has more than doubled in the past decade to reach 140 percent of disposable income. Deflationary pressures are also building that need to be reversed in order to lessen the debt burden.
Martin Wolf assesses that China is at a critical juncture in its history where, like Japan, it needs to boost consumption and lessen reliance on investment. He contends that China’s national savings rate is the highest in history for any country at its level of development and size.
One way to do so would be to increase the social safety net so that households are less reliant on property, which accounts for 70 percent of their savings. But the government has been reluctant to do so. As a result, its strategy is to rely on exports to bolster demand for China’s products, while both the U.S. and the European Union are resorting to higher tariffs to protect their manufacturing sectors.
There has also been a dramatic shift in investors’ perceptions of China since the government clamped down on prominent tech firms such as Alibaba and Tencent three years ago. At that time, I questioned whether investors should believe a benign view by BlackRock that advocated an increased allocation to China or an ominous view by George Soros who contended “Investors in Xi’s China Face a Rude Awakening.”
The pessimistic view proved to be the correct call, as political interference contributed to a dramatic decline of start-up companies that spurred China’s emergence as a technological superpower. According to the Financial Times, fundraising for both domestic and overseas venture capital has “fallen off a cliff” since 2022.
The clampdown on private companies is at odds with one of China’s goals in its “Made in China 2025” policy statement to dominate global high-tech manufacturing. Yet the government has shown no sign of reversing its stance that favors state-owned enterprises even though it has contributed to a slowdown in productivity. This is an important reason why global investors are left wondering whether China’s economic miracle is over.
Consequently, I am not convinced the latest actions mark a turning point for China’s economy and markets.
Nicholas Sargen, Ph.D. is an economic consultant for Fort Washington Investment Advisors and is affiliated with the University of Virginia’s Darden School of Business. He has authored three books including “Global Shocks: An Investment Guide for Financial Markets.”