Richard Koo: Fiscal Stimulus Will Help To Sustain Growth After China Real Estate Bubble Burst26 May, 2011, 19:40. Posted by Zarathustra
Tags: Economy, Real Estate, Richard Koo
But that would risk a balance sheet recession, just like what Japan experienced for more than a decade, and what the United States and many other developed countries have been experiencing the past few years.
His method to solve the problem of balance sheet recession, as we all know very well now, is for the government to expand public sector expenditure by a substantial amount and for long enough time in order to make up the slack by the private sector deleveraging. In the case of China, they did that successfully in the wake of the collapse of Lehman Brothers.
Now, in the (likely) event that real estate market correct significantly, the Chinese economy will probably be at risk for a balance sheet recession. So under Richard Koo’s way, the way out would be to ramp up fiscal stimulus by building roads, bridges, railways, etc.
But here is the problem.
Haven’t we been hearing repeatedly that China needs to rebalance its economy from investment-led growth model to consumption-led model? My earlier guesses of what the Chinese government can do if they accidentally crash the economy was that, first of all, the government will want the Chinese Yuan to depreciate (never mind how they do that), and they would once again deploy a massive fiscal stimulus. But there is one big problem, as I mentioned:
The Chinese government has been talking about rebalancing its economy for years with little (if any) success. Because of its past focus in growth, and because fixed-asset investment is the most controllable thing (the government can dictate how much money to be spent on building roads, but it cannot dictate how much money I am going to spend tomorrow), fixed-asset investment has naturally become the best tool for the government to adjust the speed of the economy.
The financial crisis of 2008 triggered a massive fiscal stimulus, and a big part of it went or will go into fixed-asset investment. Indirectly, the financial crisis has forced the government to delay its effort in rebalancing its economy. The Chinese government has a very good understanding of its own problem, and the leadership knows very well that an investment-led model will ultimately be unsustainable. The government can certainly try to increase investment again if the economy slows down significantly within 1 to 2 years, but the problem of sustaining the unsustainable fixed-asset investment will remain.
Does it make whole lot of sense to build even more roads, bridges and railways when there are clearly more than enough of that?