Framing a goldilocks restructure

Editor's note: Warwick Powell is an adjunct professor at Queensland University of Technology and a senior fellow at Taihe Institute, Beijing. The article reflects the author's opinions and not necessarily the views of CGTN.

China's Politburo announced a raft of fiscal and monetary measures on September 26 on the back of mixed economic data for August 2024. Much of the public interpretation has verged between describing them as a "bazooka" (Wall Street Journal) or as insufficient, with demands for more aggressive fiscal expansion.

To make sense of the measures, it's worthwhile taking stock of the state of China's economy today. What's happening presently (and has been happening to one extent or another over the past 14 years) is a progressive rotation of the social composition of capital across three dimensions:

1. Sectoral. The balloon of residential property development was pricked softly in 2017 and more assertively in 2019-2020. Residential property market deflation deliberately aimed to reduce excessive leverage and bring down the average price-to-income ratio for residential properties. The national property price index has now returned to 2015-2016 levels. Conversely credit expansion has most obviously been in high-tech manufacturing and green energy as well as amongst micro-small enterprises. Real economy capital formation has taken precedence over financialized trading of public-listed stocks.

2. Geographic. Shifts in sectoral activity accompanied shifting emphasis from tier-1 to tier-2 cities. Residential development credit growth and household income growth were disproportionately concentrated in these cities. Deleveraging has impacted the consumption expenditure of particularly higher income (top 20 percent) households in the tier-1 and tier-2 cities, who make up a significant contribution to total household expenditure.

3. Demographic. The rotation is shifting income growth to households located in the lower-3 quintiles in particular (bottom 60 percent). These segments are mainly located outside tier-1 and tier-2. Those in tier-1 and tier-2 are principally rural migrants renting on the outskirts of such cities.

The aggregate data on urban-rural income change confirms this pattern. Rural incomes are growing faster than urban incomes. Corresponding to this is the gradual fall in the GINI coefficient since 2012. Interestingly, the labor market has shown resilience as overall it has fluctuated around 5.2-5.3 percent during this period of intense structural change. Declining property and share values mainly impact tier-1 and tier-2 households concentrated in the top income and capital wealth quintile.

The announced adjustments to interest rates for residential borrowings and funding to support stock market stabilization go directly to this demographic, in anticipation that higher income households will increase their consumption expenditure as financing costs fall and wealth effects kick in. Together with loosening of housing purchasing regulations, the aim is to bring the controlled property market deflation of the last five years to a gentle landing. Central government funding of new public housing models adds to this.

With that said, disposable income and consumption data continue to show reasonable levels of aggregate growth. Put plainly, the wealthy aren't spending like they were and this is impacting the aggregate data, while the lower income groups are increasing their incomes and consumption choices. The issue is, how much of this extra income is being spent. As household incomes have grown, the rate of savings as cash deposits has also increased over the past few years. 

The announcement of the expanded issuance of medium to long-term bonds and reducing barriers to wealth management product creation, aims to encourage the transfer of household savings from cash-at-bank to interest bearing coupons. This move is likely to temper risks of asset price volatility, as retail cash is drained out of the system to enact.

These rotations have taken place as the annual rate of credit growth has fallen. This has been most pronounced in the residential property sector where annual rates of credit growth peaked at a little over 20 percent in 2017 before being brought down to less than three percent in 2020-21. It is now at about five percent. Easing of reserve requirements for commercial banks notionally goes to addressing credit growth constraints, though strictly speaking commercial lending isn't limited by reserve ratios. It should be noted that while credit growth has been relatively low compared to the pre-COVID situation, there is strong credit growth in the non-property private sector.

The balancing act is between an aggregate GDP target versus a sector-spatial-demographic rotation and restructure, whereby the low to medium income ranges are benefiting but the top end have been taking a capital wealth haircut. That said, Bloomberg estimates that by 2026 the impact on GDP of high-tech will surpass that of property development. This is the structural change now being engineered.

The measures announced place a floor under capital wealth deflation, aiming to boost consumption demand amongst the higher income groups to augment the wider consumption growth evident in lower income segments. At the same time, measures are being put into place to syphon unspent household cash into medium and long-term bonds. This could stem asset price volatility, as retail investors are in effect taken out of circulation.

As these rotations work their way through the economic system, the outstanding question seems to be how fast will all this take place. Given all of the above it appears that the central policy authorities are relatively comfortable with the broad balance to date - comfortable enough to avoid massive liquidity injections or cash splashes, preferring less direct mechanisms to expand consumption demand while placing a floor under asset value depreciation. Direct capital injections may still be in order, and support to lower income households could further boost consumption.

These are the parameters of the goldilocks restructure that policy makers are seeking.