By Michael Lelyveld
China appears to be coming into increasing conflict with the International Monetary Fund as it ignores warnings about “dangerous” levels of debt.
On Aug. 15, the IMF said that China’s attempts to spur economic growth with loose lending policies have put it on a perilous path.
“International experience suggests that China’s credit growth is on a dangerous trajectory, with increasing risks of a disruptive adjustment and/or a marked growth slowdown,” the multilateral lender said in a staff paper accompanying its annual consultative report.
The statement marked at least the third time in a little over a year that the fund has used the highly-charged term “dangerous” to describe trends in China’s debt-fueled growth policies.
In August 2016, James Daniel, IMF mission chief for China, said the country’s “vulnerabilities are still rising on a dangerous trajectory” due to debt problems, The Wall Street Journal reported.
Last October, the fund warned in its updated World Economic Outlook that “the economy’s dependence on credit is increasing at a dangerous pace, intermediated through an increasingly opaque and complex financial sector.”
The latest signal comes with a sharp rise in China’s projected debt levels as compared with gross domestic product since the last forecast.
The fund now estimates that total domestic non-financial sector debt will rise from 251 percent of GDP this year to 296.7 percent of GDP in 2022.
The IMF previously estimated that debt would peak at 270 percent of GDP, the Financial Times said.
In supporting its conclusion of “dangerous” debt growth, the IMF staff said it had identified 43 cases of countries with increases of more than 30 percentage points in their credit-to-GDP ratios over a five-year period.
Only five of the cases ended without a “major growth slowdown or a financial crisis immediately afterwards,” the paper said.
Even with those exceptions, all of the credit booms that started when credit-to-GDP ratios topped 100 percent “ended badly,” the IMF said.
In China’s case, the culprit behind credit risks is the Communist Party’s promise in 2010 to double the country’s GDP by 2020, locking in a commitment to high growth rates.
In 2012, former President Hu Jintao doubled down on the policy by pledging that both GDP and per capita GDP would double in the decade by 2020.
But the IMF noted that the effectiveness of easy loans in generating more growth has deteriorated over time.
In 2007-08, it took about 6.5 trillion yuan (U.S. $993 billion) of new credits to pump up the economy by 5 trillion yuan (U.S. $764 billion) per year. In 2015-16, the economy needed 20 trillion yuan (U.S. $3 trillion) in loans to boost GDP by the same amount, the IMF staff said.
China has reacted to the IMF warnings with a series of denials.
In a commentary for the official English-language China Daily, the director of the China Academy of New Supply-Side Economics, Jia Kang, said the IMF assessments “are exaggerations, which could mislead public opinion.”
Jia said China is a “special case, as its economy is still centered on indirect finance,” resulting in a double-count of some debt. But he conceded that it was “somewhat true that China’s debt level is high.”
Like other defenders of China’s credit policies, Jia argued that the debt ratio of China’s public sector, under what the IMF calls a “narrow definition,” is at a “safe level” of less than 50 percent of GDP.
“Hence, we should regard the IMF’s remarks as a prewarning, but we don’t have to be too worried about it,” Jia said.
But since the world financial crisis in 2008, China’s total debt has more than quadrupled to U.S. $28 trillion (183 trillion yuan) at the end of last year, the Financial Times said.
China’s representative at the IMF has rejected the fund’s warning of an abrupt slowdown due to debt troubles as “highly unlikely,” the paper reported.
An Aug. 31 report by the official Xinhua news agency on the IMF’s annual assessment glossed over the debt warning, focusing on the fund’s increased projection of GDP growth to 6.7 percent for this year.
“The economy is performing reasonably and stably,” the Xinhua report said, without mentioning the controversy over “dangerous” debt levels. “The quality also forges ahead,” it said.
Last week, the People’s Bank of China (PBOC) announced that new bank lending August of 1.09 trillion yuan (U.S. $166.5 billion) rose 32 percent from a month earlier, topping market forecasts.
The silence on the debt issue reflects an attempt to avoid rocking the boat on economic policy before the Communist Party’s pivotal 19th National Congress scheduled to start on Oct. 18.
“In a world experiencing zigzag recovery, China is opening up a bright prospect by performing arduous reform tasks and moving forward one step at a time,” Xinhua’s assessment said.
Lowell Dittmer, a China scholar and political science professor at University of California Berkeley, said that the stage setting for the congress has placed limits on official reactions to the debt controversy.
“Their general policy is very repressive right now about information that does not reflect positively on the leadership and the process going forward,” Dittmer said.
Repeating the mantra
The promise to double GDP by 2020 has been at the core of the Communist Party’s pledge to create a “moderately prosperous society in all respects” in time for the one-hundredth anniversary of its founding.
President Xi Jinping and Premier Li Keqiang have repeated that mantra frequently this year.
For much of last year, China’s leaders appeared to be committed to a gradual decline in GDP growth rates as the government threatened limits on lending to “zombie” state-owned enterprises (SOEs) and heavily-indebted industries.
But an increase in GDP growth from 6.7 percent last year to 6.9 percent in this year’s first half may be a sign that the government shied away from the risk of underperforming on its GDP pledge.
In the run-up to the party congress, official commentaries on China’s economy have stressed long-term achievements with political rhetoric, paying scant attention to the pressing problem of escalating debt.
“From large-scale industrial construction to creating a moderately prosperous society, the CPC (Communist Party of China) has accomplished the greatest modernization project history has ever seen over the past 60 years,” Xinhua said in a laudatory analysis in August.
But Dittmer argued that the conflict of growth and debt has become the driving force behind many of China’s problems, including industrial overcapacity, unneeded infrastructure projects, unoccupied housing and pollution.
The government has launched major initiatives to deal with all of those issues, but none of the efforts has risen in importance to displace the commitment to double GDP and the economic model of debt-fueled growth.
“That’s what their priority is right now, to maintain this growth, and they’ll sacrifice dealing with it for the time being until the party congress,” Dittmer said.
In one other possible sign that growth remains China’s top priority, the Ministry of Environmental Protection warned on Sept. 4 that the seasonal onset of winter smog in Beijing has started earlier than expected this year, despite the closure of coal-fired power plants and tougher enforcement of emissions rules.
Municipal readings of smog-causing particles known as PM2.5 have already jumped to nearly two-and-a-half times last year’s average, which in turn was nearly three times higher than safe levels recommended by the World Health Organization.
City authorities blamed the smog outbreak on “unfavorable air conditions and high local vehicle emissions,” Xinhua said.
The government is expected to shut down factories and traffic in the city to help assure clear skies in the city for the party congress next month.