In addition, the zero-covid policy would have to be fundamentally adjusted. To restore faith in the economy, the Chinese government will probably have to unleash an unprecedented wave of financial support and stimulus to turn sentiment around. Much of the urban public has lost confidence in the government’s economic model. However, these measures are unlikely to be sufficient. The central government has further stepped-up investment in large infrastructure projects, such as the massive south-north water transfer scheme, as well as renewable energy installations and power transfer projects. A new plan has also been put forward to use special loans from state policy banks to complete pre-sold homes. So far, the central government has repeatedly cut mortgage rates and taken to fully guaranteeing new bond issuance by some private developers, effectively reopening a financial lifeline for these companies. The complexity of the situation, especially given prior policy priorities, is daunting. More hope rests on central government policies, but these have been uncharacteristically incoherent and unhurried. However, many of these measures have had little impact. Local governments are also setting up bail-out funds to invest in unfinished housing projects, finish them and then deliver the properties to their original buyers. Now, the focus is on stimulating demand with measures to make it easier to get mortgages and to purchase multiple flats for different family members. Actions have mainly focused on loosening various restrictions on real estate purchases initially put in place to dampen demand several years ago. On the local level governments have attempted to forcefully respond to these trends.
No one is incentivized in this situation to consume, even less to make longer-term investments. Any business owner must now fear sudden closure, while employees fear a lay off with no warning. And more broadly, the looming threat of a lockdown is having a deep impact on the consumer psyche. As more and more large cities are forced to lock residents in their homes for days, even weeks, when cases are discovered, people have stopped viewing homes and making purchases. This consumption downturn is being exacerbated by China’s zero-covid policy. Since a massive 70 percent of Chinese household wealth is tied up in housing, a prolonged real estate downturn risks tanking the whole economy and further depressing consumption. But this has severely limited their ability to continue building and selling new projects.Īs a result, the property market has seen large price declines and slid into a sector-wide depression with the entire industry at risk. Since August 2020 the policy known as “three red lines” restricted developers’ unsustainable borrowing and forced them to sell down assets. The initial crackdown on the real estate industry was well intentioned with the primary objective to lower leverage and thus risks in the sector. The problems in the property sector are especially pronounced. This is first due to clampdowns that started last year on key Chinese business sectors, especially within technology and property. Households and companies have gloomy expectations and weak confidence in the economy. In other words, both consumers and investors are unwilling to borrow, creating lackluster credit demand and growth. Yet, the banking system is bursting with cash as deposits are amassed at an alarming rate, since both corporates and households are over-saving. Since interest rates are still relatively high and have not come down to zero, as happened in Japan, China faces more of a partial liquidity trap. But the economy remains awash with cash in the financial system while lacking in consumer demand. It also has repeatedly prodded banks to lend more.
In recent months, the Chinese government has lowered interest rates and made it easier to take out mortgage loans.
No one, neither consumers nor investors, is willing to borrow. But despite these efforts, demand for loans falls flat. One of the most poignant is how the Chinese financial system is entering a liquidity trap, which occurs when a central bank attempts to push money into the economy, either by lowering interest rates or directly incentivizing or even forcing banks to lend. It can be illuminated from a multitude of perspectives. China’s economic downturn seems to have reached a new stage.
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