Monetary measures can ease effects of trade tension
One direct impact from the China-US trade row is greater pressure on exports. The Chinese government has signaled an effort to respond by expanding domestic demand with fiscal measures. However, it is the responsibility of monetary policy rather than fiscal policy to stimulate domestic demand.
Some have suggested that monetary policy has not been used because of the already high monetization rate in China – M2, a broad measure of money supply, is already twice the amount of GDP.
However, when we are trying to find out whether M2 is at the right level, the monetization rate is not the only standard; the securitization rate is another key indicator. Indirect financing is China’s main financing method, and direct financing is complementary. When direct financing is less developed, putting too much restraint on indirect financing can eat up liquidity. The idea of tightening monetary policy needs careful evaluation. Amid the China-US trade friction, monetary policy should come up front and take the key role that it should play.
According to Milton Friedman, there is a relationship between the growth rate of M2 and the economic growth rate. When an economy is experiencing fast growth, it is reasonable for M2 to grow twice as fast as the GDP growth rate – there will be inflation if M2 expands too fast, but deflation if it is too slow.
Since 2010, the growth of M2 has slowed down, and it is now slower than the nominal growth rate of GDP. The demand side problem has come to the surface.
In recent years, China has fallen into a liquidity trap. Since economic growth has been slackening, enterprises couldn’t find good investment opportunities. The demand for loans has declined. Companies would rather put money into their accounts at the bank. Therefore, M1 has outgrown M2. As the internationalization of the yuan continues, demand for the yuan will increase. Putting all considerations together, keeping a decent growth of money supply is necessary to expand domestic demand.
An important task for financial reform is to expand direct investment. The Chinese stock market has lost its vitality recently, and investors have been hesitant. Many thriving Chinese companies have had to launch their initial pubic offerings overseas. And of those that have stayed in China, some have chosen to list in Hong Kong instead of the mainland stock markets. Finding ways to boost enthusiasm among investors and companies deserves serious thought. The reform of the domestic IPO system – by replacing the approvalbased system with a registrationbased one – is a good start.
The securitization rate could be improved by encouraging bond issuance based on good assets. When companies have a high debt ratio, one way to gain more financing is to issue bonds. This can offer a good investment channel for other people, as well as lowering companies’ debt ratio and pushing them to improve their operations because of the requirement for full accounting disclosure. Tightening the money supply will not necessarily help bring down the soaring real estate prices. The rise in housing prices has not been caused by too much money being injected into the economy. The lack of a housing market that integrates urban and rural real estate is the real reason.
China should also help formulate a better international reserve currency system; the euro and the yuan should play a larger role as reserve currencies. The US has been taking advantage of its dominant reserve currency position by spending more than it has produced. The dollar’s reserve currency dominance allows the US to have both a fiscal deficit and a trade deficit without risking bankruptcy. Other countries that do not have currencies with a strong reserve position cannot afford such deficits even if they want to.
US President Donald Trump has been complaining about the country’s trade deficit, but this is just a pretext to hide his real goal, which is to hinder China’s modernization process.
Under these circumstances, China should keep expanding domestic demand in order to support economic development. Trump wants to see the gap between the US and China get wider. So China needs to maintain its economic growth momentum to catch up with the US. And the yuan and euro must pose more of a challenge for the US dollar.
The article was compiled based on a speech by Zheng Xinli, vice chairman of the China Center for International Economic Exchanges at a seminar on Chinese financial risk management on Sunday. bizopinion@ globaltimes.com.cn