Broad govt spending needed to boost long-term growth

The third plenary session of the 20th Central Committee of the Communist Party of China, held from July 15 to July 18, has garnered significant interest in China's economic development. The resolution on further deepening reform, adopted at the plenum, has proposed expanding the scope of fund utilization from the sale of local government special-purpose bonds. This includes allowing a larger portion of these funds to be used as capital across various sectors and on a broader scale.

From a macroeconomic point of view, the Chinese economy has been operating below its potential GDP growth rate for more than two years, because of overall sluggish and declining prices, low investor confidence and underemployment.

The Chinese economy has been in the grip of a "minor cold" for the past more than two years. Given China's current economic scale, curing the economy's "minor cold" is not a big problem. However, if the "minor cold" is not promptly treated, it could evolve into a more severe "heart and lung disease", impairing future economic performance. In economics, unresolved short-term issues could impact long-term GDP growth.

Therefore, China should take measures to eliminate potential risks, and prevent short-term, cyclical factors from becoming long-term trends due to delayed policy responses. Also, government departments must adopt a more proactive approach to prevent and eliminate systemic risks, and establish a systemic risk emergency management team.

The core issue is the reduction in government spending, which incidentally caused the "minor cold". Over the past four years, government spending, an essential lever for macroeconomic regulation, has decreased by 3.8 percent to just over 26 percent. This change has significantly impacted the market economy. Reduced government spending decreased total market demand and could further suppress economic activity, affecting key economic areas such as business investment and consumer spending, leading to poor growth momentum and even contraction.

We believe that current government spending should not be reduced; instead, broad government spending should be increased.

In the short term, it is necessary to first reassess the nature of government bonds. Judging by the experiences of other economies, the issuance of government bonds in China has been insufficient. Therefore, the government should issue more bonds and use the funds to pay off local debts, thereby revitalizing local governments' economic activity. This reform should be implemented immediately, as it would significantly boost total demand in the short term.

In the second half of the year, timely short-term policies must be implemented. For instance, during the National Day Golden Week holiday, the central government could consider using several million yuan or an even larger amount to directly distribute consumption vouchers among the people, incentivizing and subsidizing consumer spending. The immediate effect of such a move would be the quick activation of the consumer market, which will in turn vitalize the Chinese economy.

Preliminary estimates show such a move would not deplete existing central financial reserves. In fact, it could leverage the multiplier effect of the consumption vouchers which, based on local government experiments, could generate about four times the additional consumption for every yuan distributed. With the increase in consumption turnover tax, the central fund would ultimately return to the government as tax revenue, boosting consumer confidence and market vitality at nearly zero cost.

In the long run, the government should shift from the project-oriented approach to a service-oriented approach, for which the government has to focus more on public welfare, and prioritize improving people's income and consumption levels.

By optimizing public services, strengthening social security and developing sectors directly related to people's lives such as education and healthcare, the government can effectively improve people's quality of life and consumption capacity, thereby stimulating market-driven growth and forming a virtuous cycle of consumption-led economic growth, and helping increase people's disposable income.

Government bonds are not just financial instruments used to cover fiscal deficits; they are important tools for increasing national wealth and symbolize government capacity. As a matter of fact, government bonds are foundational financial assets and the base of the capital market pyramid, which ensure essential services are provided, leading to the healthy development of capital markets. Government bonds should be recognized for their irreplaceable role and issued even when the economy is healthy.

Government bonds are also crucial for promoting the internationalization of the renminbi. For international investors, holding Chinese government bonds is the safest and simplest form of investment in China, with 12 percent of Chinese government bonds currently held by foreign investors.

Analyzing the nature of government bonds prompts us to advocate for frequent issuance of government bonds as a key tool for economic development.

Consumer spending is unlikely to recover quickly in the short term due to the "scar effect". Also, it is difficult to revitalize the real estate market and boost private enterprises' confidence in the short term. Therefore, the government should use government bonds to steer the economy back on a normal trajectory.

However, China's government bond market is still a work in progress, as it lacks variety and the financial market has limited depth and breadth. The US government bond market is known for its large scale and liquidity, and offering annualized interest rates in the 4-5 percent range on long-term bonds (20 years, 30 years or even longer). China's bond market, though rapidly developing, is still in its early stages of development, especially for long-term bonds, with the recent first issuance of 20-year bonds indicating gradual development.

Government bonds are not only safe, carry low risks, but also the cornerstone of financial markets. Their liquidity, safety and degree of internationalization are crucial for attracting foreign investors. Improving the government bond market, particularly the long-term bond market, will enhance the financial market's depth and breadth, providing stable, long-term funding sources for the economy.

After an in-depth analysis, we are confident of China's economic prospects. Economic development requires innovative and effective policies, collective efforts and sustained investments from all sectors to ensure long-term stable economic prosperity. We believe that comprehensive reforms will enable the Chinese economy to overcome the challenges.

The author is director of the Academic Center for Chinese Economic Practice and Thinking at Tsinghua University.

The views don't necessarily reflect those of China Daily.

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