How was China affected by the financial crisis?

The 2008 financial crisis gains space in academic debates, with its origins in the world’s largest economy, the US. Most preliminary focus is on two fronts: understanding the determining preconditions of the crisis, and the consequences for countries suffering from this adversity.

From a solely economic perspective, the fragility in financial markets and cyclical behaviours of capitalist accumulation processes affect public and private investment expectations, and the theory of interest bearing and fictitious capital. Thus, reaching income, employment, price, and consumption levels. The chain affect bears a direct impact on society, rather than mere financial adversity.

To participate in such debate, we must explore preconditions of the recession that influenced individual, institutional, and government ideologies and processes. The global crisis was caused by a combination of factors: the proliferation of financial instruments, the increase in global overconfidence and financial greed, the collapse of the US housing market, and the failure of individual financial institutions. A complex accumulation of government policy, fiscal and monetary policy failures, excessive global risk taking, and profit driven development of the US housing industry curated the ‘perfect storm’ with the ability to collapse the global economy.

In the People’s Republic of China, the financial crisis alongside cyclical downward adjustments at the end of 2007 resulted in a greater magnitude of slowdown in the real economy than expected, thus rapid reductions in inventory and production levels in the latter of 2008.

The reason for this article, however, is not to discuss the preconditions in China, or the process of economic downturn, but to evaluate the recovery of the PRC. Thus, enabling the question: at what point will China’s economy come to a halt?

Although the effect of crisis is displayed in the size of economic slowdown, the recovery of the PRC is dissimilar entirely. The adjustments of industry and production levels created validity for government stimulus policies to avoid further economic slowdown. In comparison to many emerging market economies globally, where asset prices fluctuated and currency depreciations were drastic, the PRC’s financial and industry sectors were strong.

With the composite share index rebounding, and purchasing managers’ index increasing, the first half of 2009 displayed an evident development in Chinese grounding. The rebound of China’s economy is clear in the economic growth rate. In 2008, economic growth was at 9%, falling by 30% from the previous year at 13%. The first quarter of 2009 saw greater slowdown, reaching 6.1%, however, the economy rebounded in the second quarter of 2009 and China’s downturn following the crisis was halted. Through the implementation of the fiscal stimulus package, the economy rebounded by April, thus gained 7.4% growth rate in the second half of 2009.

Timeline: The PRC’s Economy 2008-2010

2008

• Money supply and credit growth declined (lowest levels in November, due to external shocks)

• Sudden deterioration of traditional economic growth engines (investment in financial assets and real estate) - thus, GDP dropped from 13% in 2007 to 6% in the final quarter of 2008

• Collapse of commodity markets in China after a surge (August)

• Export sector harmed - fell 2.2% and 2.8% respectively after increasing since 2001

• $585 billion stimulus package announced by the Chinese government to avoid economic slowdown (November) - effect of financial crisis more serious than initially expected

• Final quarter of 2008, collapse in the industry sector (approximately 15.3% if total rural migrant workers lost jobs) - influenced by domestic factors subsequent to the recession

• Monetary policy stance eased (alongside interest rate cuts, stabilisation of the currency, and quantity measures) - ensure liquidity in domestic financial markets to lower the cost of credit

• Final quarter of 2008, People’s Bank of China lowered required reserve ratio by 2% for large commercial banks and by 4% for smaller localised banks - alongside interest rate cuts (including first year rates and reserved deposits)

2009

• Government announces ambitious industry reinvigoration plans - aim to target removal of outdated production capacity

• First quarter of 2009, overall economic growth weakly positive (a boost of domestic demand and industry rebound) - points to positive impact of easing monetary policy, but is this growth unsustainable?

• Monetary easing eased financing for the fiscal stimulus package and short-term recovery

• Russia and China sign a $25 billion deal to supply China with oil for the next twenty years in exchange for loans (February)

• International demand decreased by 21.8%

• Year on year real estate prices grow from 3% in 2008 to 15.2% at the end if 2009 (aggressive response to loose monetary policy)

2010

• Credit control reintroduced - commercial banks prohibited from providing new loans to local government financing platforms

• Renminbi (RMB) exchange rate reform resumed (June) - began to appreciate against the US dollar Monetary growth is under control and commodity prices are stable, worries of inflation lower

Fiscal Stimulus Package

Due to the unexpected worsening of global financial markets, and downward pressure on China’s domestic economy, the government adopted stimulus policies: these policies intended to reform the slowing economic status. This stimulus was implemented to improve domestic demand and economic structure, thus, boosting economic growth beyond market expectations. Therefore, it encourages import growth, with the total intermediate imports level at 16% of the fiscal package.

Following the fiscal stimulus, employment opportunities increased, and economic growth was secured in the short term. However, the long run effects differ. Input-output analysis is a static mode of evaluation, and does not consider endogenous relative price changes. The announced fiscal spending of CNY 2.0 trillion in 2009 lead to a direct increase of output by CNY 1.7 trillion. Furthermore, the fiscal multiplier of 0.84 in the short run generated between 18 and 20 million new jobs in non-farming sectors. Pertinent changes to the fiscal stimulus package include cutting taxes, rather than increasing spending and engaging in investment. Adjustments made to the package reflect doubts about the effectiveness of devoting the package to infrastructure and concerns of social welfare inequality.

There can be some determining concerns about the expenditure structure. For example, excessive government involvement in the industry sector can impair market competition and reduce the size of private investment.

Confidence in the stimulus package can be hindered by the potential risks and implications of imposing such policy. Keeping the exchange rate stable and restoring export stimulating measures slows down the process of reducing an economies excessive reliance on external demand. A challenge is presented to both the central and local banks to avoid mistakes in selecting investment projects at a solely microeconomic level. The stimulus package also strengthens China’s reliance on investment driven growth models. Further, new bank loans are infused into both stock, and property markets. Through the stimulus package, although superficially avoiding crisis, the PRC had planted seeds for future problems, like pooling liquidity, and shortages of safe investment opportunities; the policy left China mounted in debt.

Monetary Policy

Monetary policy in the recovery period following the financial crisis was critical in retaining comprehensive measures to ensure liquidity in domestic financial institutions to lower the costs of credit. Introduced alongside interest rate cuts and stabilisation of the exchange rate, an eased monetary policy stance in the final quarter of 2008 boosted the base money supply through open market operations and reduced base rate deposits and required reserve deposits by a significant amount. Interest rate cuts in the final quarter of 2008, such as the interest rate for required reserve deposits downscaling from 1.89% to 0.99%, meant that liquidity shortages were not clear in interbank markets. Moderate policy easing facilitated the financing for a fiscal stimulus package and short-term economic recovery. However, this arguably was at the expense to giving an increase in non-performing loans held by commercial banks. Growth in these loans and a weaker recovery in the industry sector displayed development to a positive outcome of this loose monetary policy, but such developments are unsustainable, and can be costly to an economy’s long run performance.

Other Policy Introduction

Chinese manufacturers were heavily dependent on the US markets prior to the crisis. The decline in economic stability in the US meant that Chinese industry also faced significant reductions in demand, due to major investors stopping input to prioritise individual security. It should be noted that global recession was due to high interdependence between countries’ capital and inflows, suggesting the importance of looking at economic stability on an international scale. In China alone, over 10 million workers became unemployed.

These figures depict the evidence that recession had reached sectors dominant in the global economy. Leading firms began facing bankruptcy, and unemployment rates were rocketing, meaning reliance on government funds to avoid complete collapse was necessary.

The Chinese government saw to deepen reforms to strengthen the sustainability of economic growth and maximise social welfare, thus industry invigoration plans and a search for new economic growth engines spurred developments in the PRC’s healthcare and industry sectors.

Ambitious industry reinvigoration plans were implemented in the first half of 2009, intending to eliminate outdated production capacity, boost domestic demand, and upgrade industry sectors. The PRC’s government viewed industrial policy as an instrument for ensuring upgrade and quality growth in the sector. Reforms in the healthcare sector, including government plans to provide fundamental services and undertaking deregulation, signified the aims of government regarding welfare maximisation. The use of industrial policy and reinvigoration plans shows to have significantly increased the total credit by over 30%. With the credit in 2008 being lower than 142.5% and boosting to 175.1% in 2009, the governments’ strategy to remove outdated capacity and boost demand was in practise.

With the credit in 2008 being lower than 142.5% and boosting to 175.1% in 2009, the governments’ strategy to remove outdated capacity and boost demand was in practise. Geopolitically, China has become increasingly significant on the world stage, over the past decade. The state has developed critical relations, not only with Russia but with South-East Asia and Africa, which provide links with new developing economies. In both Biden’s and Trump’s US presidencies, China has been recognised as the greatest geopolitical and economic threat to US security. Therefore, it is demonstrated that China’s policies and developments continue to evolve with the global stage, thus, displaying its success in geopolitical movements.

Conclusion

Addressing the question of China’s stability in the future, we can claim that frequent crises from 2009 suggests otherwise from a steady development. Financial crises have occurred repeatedly since this period, with mostly structural causes. Thus, it is argued that the ability to address and resolve these structural concerns in the future is limited. Therefore, it is proven likely that crises will continue in the PRC. Considering this, each crisis undergone so far has shown little difficulty for the Chinese authorities, and by large remained within the domestic industry. The financial linkage between China and the rest of the world does not include dependency, thus, crises in China have not evolved into global slowdowns in such that the 2008 US financial crisis morphed.

Over a decade after the 2008 financial crisis, delays in reform of the Chinese economy means it has lower capacity to manoeuvre financial difficulty. Economic growth remains dependent on state-led activity rather than in private sector and consumption driven economies.

The difference between the 2008 crisis and the Chinese position today is that the purpose of the financial system has altered, from a workaround to the issue of internationally slow policy implementation, to a great proportion of the problem (representing on average half of global GDP at over $40 trillion). Correlating the recurrence of crises in China, and the stability of global economies, it is evident that the promotion of further linkage between agents should be both monitored and limited to avoid the structural weakness of the Chinese economy migrate internationally. Over dependence on the Chinese financial industry should not be addressed superficially, and precautions must be in place to prevent a disruptive slowdown of the global economy subsequent with a Chinese crisis.

Although the economy could indeed reach such point of saturation that stagnation occurs, the question to whether China’s economy will indefinitely halt should be disregarded. Along with multiplying its significance on a geopolitical level, and maintaining sustainable economic growth, the PRC has continuously proven its ability to recognise and migrate to developing markets. The limitation of specific sector expansion, and movement away from traditional heavy industry and transport sectors to technological, artificial intelligence based digital markets displays China’s positioning as a new world leader.