CHINAA MacroEconomic Analysis

Section:B Group:5

INTRODUCTION• Second largest Country by Area behind only

Russia• Most populous country with a population of

over 1.35 Billion• Second Largest Economy by total GDP of

about $9.4 trillion as of 2013• Fastest growing major economy with an

average growth rate of about 10% over the last 30 years.

• Largest Importer as well as Exporter of goods

TIMELINE OF CHINA’S ECONOMY• Before 1979, China had a Russian-style centrally planned economy with the goal to

make china self sufficient, Growth was stagnant

• In 1979, reforms such as allowing foreign investment, permissions to entrepreneurs to start business were introduced.

• However most industries were still state owned

• In late 1980’s and 90’s privatization of many state owned industry was allowed.

• Price controls & other protectionary measures were also abolished

• Private sector contributed about 70% of china’s GDP growth

NATIONAL INCOME National Income is total value of a country’s final output of all goods and services produced in a year.

Other than 2009, the GDP growth rate was in double digits. The impact of global recession of 2008 was seen, yet it maintained a growth rate of 7.96%.

INFLATION• As you can see in the graph, from

1998 to 2007 inflation in China has mostly been low at about 0-6%.

• There has even been deflation in between 1998- 2000 and 2002-2003.

• These fluctuation did bring about changes in china’s economic policies as we will see in the further sections.

UNEMPLOYMENT

Unemployment is said to occur when a person is vigorously searching for a job but is unable to find one.

As per 2013 statistics the unemployment rate of china stands at 4.1%.

FISCAL POLICY

• Fiscal policy of a country deals mainly with the Government’s income (usually in the form of taxes) and its expenditure and how they can be used to influence the economy.

• It involves the government altering its expenditure and revenue in such a way so as to smooth economic fluctuations in the country’s economy.

• The tools used in fiscal policy are subsidies, Government investment programs, tax changes and government bond policies.

CHINA’S FISCAL POLICY• To fuel its economic growth China has consistently spent huge amount of money in

developing its infrastructure.

• In 1998 to deal with the Asian financial crisis China adopted an expansionary fiscal policy and issued long term bonds of 910 billion Yuan specially for construction.

• Then in 2005, to curb fiscal deficit, it adopted a neutral fiscal policy

• In this expenditure was reduced, and Govt. control over the prices of commodities was eased, in fact prices of 90% of goods and services were now being determined by demand and supply without any govt. interference.

CONTD.

• However in 2008 due to the global financial crisis china once again adopted an expansionary policy as China’s GDP growth rate fell form 14.2% in 2007 to 9% in 2008

• Unemployment hit 4%, highest since 1980.

• FDI decreased by 36.5%, imports as well as exports both declined for the first time in seven years.

• To battle this, China increased its investment by 4 trillion Yuan ($650 billion)

• The 4 trillion Yuan were spent on projects such as houses for low income groups, construction of railroads, airports, bridges, and highways etc.

• China also excluded investments from the VAT tax base so as to boost investment by private sector.

• These measures greatly helped China’s economy to get back on track towards sustainable growth after the global economic slowdown

MONETARY POLICY• Monetary policy involves using instruments such as interest rate to influence demand

and supply so as to combat market fluctuations.

• However, since the banking system is not fully liberalized the effect of interest rate is not as big as it is in other countries.

• State owned enterprises are responsible for 60% of loans and enjoy huge monopoly power and are thus immune to interest rate changes

• The main tool that china uses to enforce its monetary policy is the required reserved ratio (RRR)

• As seen in the graph RRR is the preferred tool of the PBOC to control the liquidity in the market

• From 1984 to 2007, the RRR was changed just 7 times to manage inflation/deflation

• Between 2007 to 2011, it was altered 35 times, the maximum by any country.

EXCHANGE RATE• From 1994 to 2005 China followed a

fixed exchange rate by pegging its currency with the US Dollar at 1 USD = 8.28 Yuan

• Chinese currency was not allowed to appreciate

• This created tensions with the US as it made China’s exports cheaper whereas US exports to china more expensive.

CONTD.• In 2005, China allowed market forces to influence the exchange rate, but in a controlled

way.

• This is called a ‘managed float’. Yuan was allowed to appreciate to 6.83.

• However in 2008 economic crisis, demand for Chinese products fell and the Govt. decided to halt the appreciation of Yuan at 6.83 to protect China’s exports.

• Control over the exchange rate was loosened in 2010 after China recovered.

• Current exchange rate is at about 1 USD = 6.12 Yuan. US claims it is still ‘significantly undervalued’

FOREX RESERVES• For maintaining its peg to the USD constant,

PBOC had to buy/sell as many dollar-denominated assets in exchange for newly printed Yuan as needed to eliminate the excess demand/supply for the Yuan

• To prevent Yuan from appreciating, China ended up with huge reserves of foreign exchange -- 3.3 trillion in 2012.

• Appreciating Yuan and the huge amount of investments made by china to combat slowdown means that forex reserves are now decreasing.

BATTLING THE 2008 FINANCIAL CRISIS

• To battle the slowdown, China decreased the RRR and decreased the interest rates for loans so that loans and investment increased.

• Various other measures such as decreasing mortgage loan interest rate etc. These lead to a huge spike in bank lending (by mid 2009 the loans had increased by 300% from 2008.

• In addition a 4 trillion Yuan stimulus package was deployed to strengthen the economy.

CONCLUSION• While China progress towards liberalization continues, sectors such as banking and

petroleum are still government owned, which may be holding china’s economy from reaching its full potential.

• Chinese Govt. is frequently involved in the economic market and has embraced Keynesian economics. It was one of the first countries to recover from the 2008 crisis

• By and large china has successfully used its fiscal and monetary policy to maintain an impressive growth and is well on its way of achieving its goal of becoming a fully developed country by 2049.

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