The financial crisis is doing its best to wreck China’s economy. China is digging in for a long, tough, battle to keep its growth rate steady.

On December 10, 2008, the 3-day China’s Central Economic Work Conference (hereafter CEWC) closed in Beijing. Against the background of the financial crisis and drastic slump of the domestic economy, “Keeping Economic Growth Rate, Enlarging Domestic Demand and Adjusting Economic Structure” was decided on as the theme for 2008 China’s Central Economic Conference. The conference laid out a plan for China’s economic policies for the entire next year.

Earlier, on November 28, 2008, the Politburo of the CPC Central Committee convened a conference in which the primary economic task in 2009 was decided to “to keep the steady and more rapid development of economy”. This conference was thought to be the “preparing meeting” for the CEWC, and as expected, the CEWC made this motto official.

In the opinion of the conference, the best way to keep economic growth rate is to enlarge domestic demand. The major directions mechanisms will be to accelerate the shift of the development pattern and the adjustment to the structure; deepening the reform of the core fields and key links and increasing the level of opening up provide powerful motive for keeping the growth rate and opening the economy up even wider; the ultimate goal is, as ever, to improve people’s living standards.

The 2008 CEWC was held at a difficult time for China’s economy, which is sliding quickly. At the same time, the year of 2008 is the 30^th anniversary of China’s Reform and Opening up. The conference has great significance, therefore, both symbolically and tangibly.

Serious Situation

The recent economic data shows that China’s export-oriented economy may face its toughest test in 30 years. Since October 2008, almost all economic indicators have been headed down is very rare in the history. The Production Price Index (PPI) fell from 9.1% in September to 6.6% in October and then to 2% in November. The year-to-year export increase in September was 21.35%, while in November it was only -2.2%, which is the first decrease in 7 years. The added value of industry, which is closely related to the economic growth rate, was only 8.2% in October, and it’s on the way down as well.

Though experts predicted difficulties, the data is more worrying than almost anyone expected. No one saw this one coming.

On November 12, 2008, Director of the National Bureau of Statistics Ma Jiantang said that the deepening global financial crisis was bringing more and more effect upon the tangible economy. China is much more seriously influenced than many people have expected. In addition, China’s economy has its own problems to deal with. The combination could be devastating.

At the beginning of 2008, China was actually worried about the over-speeding economic growth. In the CEWC in 2007, the marching orders given were to prevent the economic growth rate turning into “overheating” from “over-speeding”, to prevent the price increase turning into “obvious inflation” from “structural increase”.

However, in less than one year, China’s government had to fight for keeping its economic growth rate from falling behind 8%. Eight (pinyin ba) is a lucky number in Chinese culture because its pronunciation in Chinese sounds like the one of Chinese words “becoming rich” (pinyin fa). Some think eight percent is the lowest economic growth rate that Chinese people can accept. When the Asian financial crisis broke out in 1998, the current Chinese premier Zhu Rongji said the GDP growth rate should not be lower than 8%. The present Chinese premier Wen Jiabao tries to realize the economic shift which aims at improving the quality of growth at the cost of lowering the growth rate. However, But the bottom line is still 8%.

It is generally believed that China must keep the above-eight-percent economic growth rate so that it can provide enough vacancies for the 20 million newly-added employed people. If the growth rate falls below 8%, China’s economy may have a hard landing, and a large number of enterprises will go bankrupt, causing major job losses. As described elsewhere in this issue, that could result in severe social turbulence. Therefore, keeping above-eight-percent growth rate is much more like a political task.

According to the report made by China International Capital Corporation Limited (CICC), many “for the first time” and “the largest” in those indices clearly show that China’s economy is sliding more and more rapidly. The situation is much more severe than it was 10 years ago. Those “for the first time” and “the largest” include:  negative increase for the first time occurs to the generating capacity in 10 years; output of major heavy industrial products suffers the largest drop in the history; the house prices of 70 major cities suffer the largest drop on a month-on-month basis; the financial income and FDI suffer the negative increase for the first time since 1996.

Pessimism V.S Optimism

Will China win the battle of “defending eight”? Foreign-funded banks, representing the pessimistic party, think that the influence on tangible economy from the financial crisis has just begun. China’s economic growth has already decelerated its speed. “Defending eight” is the optimistic result. Recently, the World Bank and Morgan Stanley trimmed China’s GDP growth forecast in 2009 to 7.5%. BNP Paribas thinks that the growth rate of China’s exports may be zero in 2009. If that happens, the economic growth rate of China in 2009, which is mainly driven by the domestic demand, will be only 5.5% to 6.5%.

However, people holding optimistic attitudes think that “defending eight” won’t be so difficult. Zuo Xiaolei, chief economist of Galaxy Securities, said that even though China’s economy has taken serious damage, there’s still room to fix it through government action. If correct measures are adopted and the investment is put in right position, Zuo Xiaolei says, defending eight will not be a problem.

Yi Gang, Deputy Director of the People’s Bank of China (PBC) is another optimist. The PBC’s latest research gave him confidence that China can stay afloat above the eight-percent line. According to his analysis, when the global economy is in recession, the foreign demand in 2009 may be low, so the GDP growth driven by exports may be tiny. However, the export-dependence ratio of China is between 15% and 20%, which means that foreign demand is not the main force of stimulating China’s economy. China’s economic growth is mainly driven by its domestic demand.

To back up Yi Gang’s opinion, Li Yizhong, the Minister of Industry and Information Technology said that China’s industrial growth rate will be about 12%, which should let China hit 8% even with a drastic decrease in foreign demand.

On December 12, Liu He, Deputy Director of the Office for CPC Central Leading Group in Economic & Financial Affairs, made four pronouncements about the future economic situation:

Firstly, the trend toward increased globalization will not change. Secondly, the financial crisis will not change the bottom line: namely, that China’s economy is on a roll. Thirdly, the decrease in foreign demand gives a powerful stimulus to the increase of domestic demand. Fourthly, the main long-term problems China has to deal with are excessive production capacity and the less developed society compared with the economy. Financial and monetary policy should therefore focus on public projects such as environmental protection in order to avoid repeated construction.

Liu He said: “the drop in the industrial growth rate, the export rate, and generating capacity in China is mainly attributed to the periodic changes in foreign and domestic economy and the adjustment in domestic economic adjustment. The fall of foreign demand is inevitable, but there is still strong demand for many a kind of products.”

When asked about the status quo of China’s economy, Liu He said: “Presently China is undergoing some adjustments. This process will last about one quarter. A temporary decline is inevitable. We don’t need to worry about that.” According to his forecast, the decline trend in relevant industries will be quite severe in the first quarter of 2009. After that period, they will start to gradually recover. Then exports will begin to soar again and the urban and rural consumption will keep relatively stable.

All in all, Liu He said optimistically: “China’s economy shouldn’t and can’t have big problems. The unprecedented challenge brings China unprecedented opportunities.”

Leading Role of Four Trillion

Actually, China’s top leaders began to focus on the change of the macro-control even before the opening of the CEWC. On November 5, 2008, Minister of Finance Xie Xuren, who was attending the APEC conference in Peru, was recalled back to China to attend the standing conference of the State Council. In that conference, ten measures, including the implementation of “positive financial policy” and “appropriately loose monetary policy”, were put forward. Meanwhile, the more important four-trillion-yuan economic stimulus package was also discussed in that conference, strongly indicating an appreciation for the seriousness of the situation.

The positive financial policy which was once implemented in 1998 to deal with the Asian financial crisis will be re-implemented. In addition, it is also the first time that the word “loose” has been used in describing China’s monetary policy for ten years. The implementation of those policies aims at pulling the domestic demand and preventing the slump of the economic growth rate.

China’s government has definitely declared that the four-trillion-yuan stimulus package will play a leading role of “defending eight”. People are wondering: is it up to the job?

Some experts hold cautious attitudes. No one has brought the details on how the money will be used, so the effect on the economy is hard to estimate. In addition, 4 trillion yuan (USD 584.4 billion) equals a 3% GDP growth rate, and those effects will only become clear in the second half of 2009. If no stimulus package is issued before then, the GDP growth rate might, roughly, be 7% to 8%, these experts think.

But more experts holding the optimistic attitudes think that the stimulus package will have positive effects on “defending eight”. The positive financial policy started in 1998 made an annual contribution of 1.5 to 2 percent to the GDP growth rate. Reasonably enough, these experts think the new positive financial policy will exert the same effect on the economic growth rate.

After the news of this economic stimulus package, many overseas investment companies kept or increased their forecast for China’s economic growth rate. Merrill Lynch forecasts that China’s economic growth rate in 2009 will be 8.6%. Frank Gong, chief economist of JP Morgan thinks that China’s GDP growth rate will exceed the 8.1% which JP Morgan forecasted before.

The positive financial policy and the four-trillion-yuan stimulus package have also been a kick in the rear for state departments and local governments in different places in China. According to the investment plans published by the local governments of different places, the total amount of investment has already exceeded 18 trillion yuan (USD 2.6 trillion). The Ministry of Finance, the Ministry of Industry and Information Technology and some other state ministries have issued many measures to support small- and medium-sized enterprises, increase the basic pension of the retirees, and promote the industrialization of TD-SCDMA, etc. The object is to promote investment and increase consumption.

Domestic Demand A Tough Cookie

In the 2008 CEWC, increasing domestic demand was confirmed to be the most effective way to keep the economic growth rate high in 2009. Enlarging domestic consumption will be the main focus. Rural consumption, housing consumption, car consumption, service consumption and travel consumption are the five main fields of enlarging the resident consumption.

The financial crisis has already hit China’s export industry, so increasing domestic demand is an urgent task for China. According to one expert, domestic demand is the weak link in China’s economy. Presently the contribution rate of consumption to China’s economic growth accounts for less than 40%, while the rate in the US is over 70%. Fortunately, there is great potential in China’s domestic demand, and such potential will not be forever unreleased.

However, there are many difficulties in raising domestic demand in China. Some experts think that the main problems in China’s economy have not yet been solved. The government’s occupation of too many resources, people’s weak consumption ability and the malformed economic structure are all as dastardly as ever. In addition, the shift from export- and investment-oriented economy to consumption-oriented economy hasn’t really been fully implemented.

Some experts also think that the four-trillion-yuan stimulus package is not focusing enough on education, health care, pensions, and some other fields concerning people’s lives. Meanwhile, Chinese people are being haunted by unemployment and stagnating income. That means Chinese people’s consumption ability has not been improved. In that situation, it is hard to increase people’s consumption will. Quoting an expert, “this policy creates consumption opportunities instead of consumption abilities.”

Ironically, in today’s China, many people with strong consumption ability have weak consumption will while the ones having strong consumption will have no strong ability. How to improve people’s consumption ability as well as their consumption will is a tough task that must be completed. If not, increasing China domestic demand and winning the Battle of “Defending Eight” in 2009 might prove to be easier said than done.