Heavy Hands Steer Economy

China's 'fine-tuning' forces deep cuts.
An analysis by Michael Lelyveld
2011-12-12
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A Chinese clerk counts yuan bills at a bank in Anhui province, Nov. 3, 2011.
A Chinese clerk counts yuan bills at a bank in Anhui province, Nov. 3, 2011.
AFP

China's attempt to "fine-tune" its economic policies are having big effects on key sectors, affecting lending, small business and jobs, experts say.

Fine-tuning has been an official buzzword over the past year as the government has tried to choke inflation without stifling growth.

While inflation has stayed stubbornly above the government's 4-percent target level, officials have differed on how much loosening to allow under the "prudent" monetary policy of the People's Bank of China (PBOC).

In July, the PBOC raised reserve requirements on China's banks to a record 21.5 percent, hoping to cut down the mountains of cash that have propped up inflation with cheap loans.

The central bank gradually tightened reserve requirements in a dozen small steps over the past three years. But regulators feared the inflation fight may have gone too far following complaints from cities like Wenzhou in eastern Zhejiang province.

In October, the official Xinhua news agency reported that one-fifth of Wenzhou's small and mid-sized businesses had stopped operating after running out of funds.

After seeing similar troubles in southern Guangxi Zhuang Autonomous Region, Premier Wen Jiabao vowed to do "our utmost to expand employment," making it "more of a priority."

Wen insisted that the government would continue to fight inflation and drive down real estate prices to "a reasonable level." But in a Nov. 5 statement, the State Council called for fine-tuning to make policies "more targeted, flexible and forward-looking."

The result was a small 0.5-percent cut in the reserve requirement ratio on Nov. 30, which "unexpectedly reversed" the PBOC policy, according to The New York Times.

Changing economy

After years when regulation appeared to have little effect on high-flying growth rates, China's economy seems to have turned.

In November, consumer price inflation (CPI) dipped to 4.2 percent from 5.5 percent the month before, the National Bureau of Statistics (NBS) said, marking the first month in the 4-percent range since February.

Average residential housing prices dropped in November, marking the third month in a row, Xinhua reported. The Purchasing Manager's Index of manufacturing activity also signaled the first contraction since February 2009, the China Federation of Logistics and Purchasing said.

Real estate developers, who have been stuck with high-priced land they bought during the boom, are now unable to recoup costs, Xinhua reported on Dec. 5.

Land sales in 130 cities have dipped 30.6 percent so far this year, Hong Kong-based Centaline Property Agency said in a report last week.

The government appears caught between social pressures from inflation and tightening measures to bring it under control.

On Dec. 2, Politburo Standing Committee member Zhou Yongkang warned that the government is "ill-prepared for social unrest generated by changes in the economy," the Associated Press reported.

Gary Hufbauer, senior fellow at the Peterson Institute for International Economics in Washington, said one reason for the shift on reserve requirements is that China's property boom has been insensitive to fine-tuning tools.

"There certainly has been a boom and there may be a bubble," Hufbauer told RFA. "There's always the problem with a bubble, when the authorities try to deal with it, that they may cause it to pop quite fast."

China's economy has expanded at seemingly unstoppable double-digit growth rates for so long that it is hard to tell whether regulators are under-compensating or over-compensating, Hufbauer said.

Last week, the Chinese Academy of Social Sciences cut its GDP growth forecast for 2011 from 9.4 to 9.2 percent. The economy expanded at a 10.4-percent rate last year.

Effect on sectors

While the government has targeted inflation, fine-tuning has affected different sectors unevenly.

"It's hard to differentiate with these macro tools like reserve requirements and interest rates," said Hufbauer.

Export-oriented businesses have also been hurt disproportionately from slowdowns in Europe and the United States.

After a 15.4-decline in China's trade surplus in the first 10 months, PBOC adviser Li Daokui warned in November that the country could slip into deficit in the next two years.

Last month's trade surplus fell nearly 35 percent from a year ealier to $14.5 billion, the General Administration of Customs announced Saturday.

"Real estate has been overheating but the rest of the economy, as we see by the manufacturing index, is not doing particularly well. You have a tale of two economies going in China," Hufbauer said.

A fine line

In a web posting at the Carnegie Endowment for International Peace, nonresident scholar Pieter Bottelier said China's policy makers are treading a fine line.

"Beijing welcomes the slowdown in property markets, as it has been trying to deflate the property bubble in an orderly way since December 2009," said Bottelier. "But larger, faster and more widespread price drops could lead to serious problems for the financial system and the national economy."

David Bachman, professor of international studies at University of Washington in Seattle, questioned whether China's policies should really be seen as fine-tuning with reserve requirements as high as 21 percent.

"If it comes down 0.5 percent and that yields big results, then clearly, people are reading it more as a symbol of future developments rather than as a specific act," Bachman said in an interview.

"The government has an interest in portraying fine-tuning as—we've got the situation under control, there are only marginal adjustments we have to make and once we do that, things will be fine," he said.

But the public's experience of fine-tuning may not be the same.

"They may read it very differently, saying, the system isn't under control nearly as much as people think or not under control at all," Bachman said. "How people are reading these things probably leads to exaggerated swings."

That appears to have been the case with the PBOC's tightening measures on bank lending at the start of this year.

In January, PBOC sources told China Securities Journal that its unofficial lending target would be 10 percent below the level of 2010, allowing loans of 7.2-7.5 trillion yuan (U.S. $1.13-1.18 trillion).

But after six "fine-tuning" increases in reserve requirements and three interest rate hikes, banks got the message that the government wanted much deeper cuts in real estate loans.

In October, the PBOC reported that property-related loans had plunged 42.8 percent in the first nine months of the year from the year-earlier period after regulators effectively froze 2.6 trillion yuan (U.S. $407.8 billion) of liquidity, Xinhua said.

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