Abstract: To enable fiscal policy and the government to play their role in supporting growth, we could consider the following measures: improve the structure of infrastructure finance; enhance the efficiency of special bonds; adopt counter-cyclical prudential regulatory model to manage LGFV debt; the monetary authority should strengthen its coordination with the fiscal authority; in addition to issuing central government bonds, part of the financing need of infrastructure investment could be met through more flexible ways; adopt multiple methods to recover economic growth and meanwhile strike a balance between economic development and pandemic control.
The Chinese government has always been refraining from increasing central government funds and budgetary funds to support local infrastructure and putting many efforts into addressing the risks of local implicit debt. This, however, has restrained the role of expansionary fiscal policy, including new special debt, in stabilizing growth. Currently, the sluggish economy and plummeting real estate market have significantly undermined the government’s overall fiscal strength. If explicit government debt cannot be raised, the government can only slash spending, making it difficult to realize the goal of stable growth.
To address the dilemma and enable fiscal policy and government to play their role, the fiscal authority could consider the following measures:
First, improving the structure of infrastructure finance. Specifically, the share of the general public budget in infrastructure investment funds should be increased. Due to the public nature of infrastructure, public finance should play its role in funding infrastructure investment by employing part of the general public budget from taxation and issuance of government debts. The Chinese government should step up the support of general public budget for infrastructure investment.
Given the current fiscal condition, transferring part of the financing demand of infrastructure into general public budget spending will definitely widen the fiscal gap, which requires more issuance of central government bonds and local government general bonds ( the two consist of government deficit). However, considering the fiscal pressure on local governments, we should mainly expand central government bonds. In effect, for bond investors, as central government and local government bonds are both backed by the nation’s credibility, there is no difference for them in terms of investment. In addition, China’s government bond market is underdeveloped. Issuing more central government bonds can not only help ramp up infrastructure investment but also deepen China’s bond market. Why shouldn’t we do it?
Second, utilizing special bonds more efficiently. The supportive role of special bonds for infrastructure depends a lot on the conversion rate of debt into physical investment. Specifically, local governments should have wider discretionary power to use special bonds. For example, we should relax or scrap the following requirements: special debts can only be renewed once; no advanced repayment; interest payment starts from the first year; debt service only with cash generated from relevant projects; special funds cannot be used across years; after the special funds are granted, the corresponding project work should be completed in the same year. The ceiling on debt ratio should be adjusted, or at least the timetable for the completion of relevant projects should be deferred. We should avoid adopting counter-cyclical fiscal policy while taking cyclical policy in debt management.
Third, counter-cyclical prudential regulation could be considered for the management of LGFV (local government financing vehicle) debt. When the economy is facing huge downward pressure, regulation on implicit LGFV debt should be more flexible, and the deadline for clearing the debt can be postponed; LGFV companies should be allowed to participate in new rounds of infrastructure construction. Meanwhile, commercial banks could be given more discretionary power to decide the purchase of infrastructure-related bonds and loan provisions for LGFV companies on the basis that they can balance benefits and risks. Commercial banks should go through a strict screening process for eligibility to get discretionary power.
Fourth, the central bank’s monetary authorities enhance their cooperation with fiscal authorities. Expansionary monetary policy and low-interest rates can reduce the cost of financing infrastructure investments and facilitate the financing process. Moreover, an increase in general government budget expenditures by the government to finance infrastructure would inevitably lead to an explicit deterioration of the fiscal situation. To cover its budget deficit, the government must issue more government bonds. Low interest rates make it easier to issue government bonds. If the public refrains from buying government bonds and government bond yields rise, the central bank must step in and work with the Ministry of Finance to reduce government bond yields.
Fifth, in addition to issuing additional treasury bonds, part of the financing needs of infrastructure investment can be covered by alternative approaches, for example, the active use of the central financial subsidies and other types of policy-oriented or innovative financial instruments to provide funds for infrastructure investment. At present, policy-oriented development financial instruments have invested 600 billion yuan in supporting infrastructure projects in key areas. Policy-oriented development financial instruments are a kind of government-led equity investment funds which can be used as capital for local government in infrastructure projects. It will play an important role in expanding infrastructure investment to implement policy-oriented development financial instruments on a larger scale and to accelerate the development of policy-oriented development financial instruments projects.
Chinese financial institutions have begun to experiment with innovations in infrastructure investment financing tools and channels in order to expand the scale of financing, reduce financing costs and mitigate financing risks. For example, certain provinces are experimenting with real estate trusts (REITs) to raise funds for infrastructure investments. In this regard, many of the attempts already made by developed Western countries are worth learning from.
Sixth, the essential solution to the fiscal policy dilemma is to restore economic growth, coordinate the relationship between economic development and epidemic control, and create the basis for stable government revenue growth.
First, we can consider adding a certain amount of special national debt, issue cash-based consumer vouchers for low- and middle-income households around the country that have been affected by the epidemic, and provide subsidies to eligible small and medium-sized enterprises. There are various options for granting subsidies; for example, one study suggests a temporary negative personal income tax policy could be considered: granting a subsidy for employed people with negative taxable income. Such a policy does not simply give out money or vouchers, thus has better precision and incentive compatibility and will not make people get something for nothing. It can be implemented through existing tax infrastructures, such as the personal income tax app, which is highly operable. Secondly, we should consider providing incentives to enterprises that create new jobs at the local subsistence allowance rate. The two policies mentioned above will require a total of 308.7 billion yuan, equivalent to 1.5% of the national general public budget revenue in 2021, with relatively little fiscal pressure. Considering that the new jobs can also reduce government spending on low-income assistance, enhance economic vitality and create incremental tax revenue, the actual impact of the above two policies on fiscal revenue and expenditure will be much less than 300 billion yuan.
In order to achieve the centenary goal of the Chinese people and make China a modernized country, China must maintain the necessary economic growth rate. Fiscal and monetary policies are important policy tools to promote economic growth. Since 2010, China's economy has entered a path of declining growth rates year by year and quarter by quarter. While there are indeed structural reasons for the decline in China's economic growth rate, the lack of clarity in China's macroeconomic policy objectives and the reluctance to adopt expansionary fiscal and monetary policies in the face of a continued decline in economic growth due to concerns about rising leverage are also important reasons for the continued decline in China's economic growth rate.
At the end of 2018, the Financial Stability Development Committee of the State Council first mentioned: "handling the relationship between stable growth, deleveraging, and strong supervision." At the Central Economic Work Conference at the end of 2021, stabilizing growth was elevated to a new level. The meeting pointed out that next year's economic work should focus on making economic stability our top priority and pursuing progress while ensuring stability, and all regions and departments should assume the responsibility for macroeconomic stability as well as actively launch policies conducive to economic stability. In 2022, the central government has proposed a 5%-5.5% economic growth target which is undoubtedly correct. The development trend and intensity of macroeconomic policy are also largely correct. However, the performance of the Chinese economy in the first three quarters has been poor. The effectiveness of macroeconomic policies has proven to be constrained by factors outside the macroeconomic realm and affected by problems that exist in the actual operation of macroeconomic policies.
The Covid-19 pandemic and the related prevention policies form a hard constraint on the effectiveness of macroeconomic policies. However, by solving the operational problems emerged in the practical implementation of expansionary fiscal policy, such as improving the financing structure of infrastructure investment and improving the management of the issuance and use of special bonds, expansionary fiscal policy can play a greater role in achieving the goal of stable growth.
All in all, despite China’s economy still facing numerous difficulties, the foundation for China to achieve a higher economic growth rate is still in place. As long as we stick to the general policy of reform and opening up, coordinate the relationship between various policy objectives, and adhere to expansionary macroeconomic policies, China will be able to achieve the goal of stable growth.
The article is an excerpt from Caijing magazine. It is translated by CF40 and has not been subject to the authors’ reviews. The views expressed herewith are the authors’ own and do not represent those of CF40 or other organizations.
