Lost in all the Chinese stock and currency market gyrations, policy missteps and mixed data is this economic reality: The government is constrained by a credit bubble that has ballooned to $28 trillion in an economy growing at its slowest pace in 25 years.
Policy zig-zags have left investors divided over how wedded President Xi Jinping and Premier Li Keqiang are to financial sector reform and shifting their $10 trillion-plus economy from one powered by investment and exports to one more focused on consumption and services. China has appeared to backtrack on pledges to make its management of the yuan more market driven and there’s uncertainty over the government’s willingness to remove stock price supports imposed during a $5 trillion sell-off last summer. Amid the confusion, the benchmark CSI 300 Index, down 14 percent in 2016, has revisited the lows of last year’s rout and pressure on the currency continues.
Against that backdrop, Chinese officialdom faces the high- wire act of trying to keep the economy growing rapidly enough to repay past obligations, without resorting to a fresh pick-up in debt to fund more stimulus. It was China’s reliance on credit- fueled growth in the wake of the 2008 global financial crisis that resulted in one of the biggest debt expansions in recent history, and today’s hangover.
"China is nowhere close to reining in its debt problems," said Charlene Chu, the former Fitch Ratings Ltd. analyst known for her warnings over China’s debt risks and now a partner of Autonomous Research Asia Ltd. "It is one of the key factors weighing on GDP growth and one of the reasons why foreign investors are so concerned about China’s trajectory."
A report Tuesday is forecast to show China’s 2015 expansion slowed to 6.9 percent -- the weakest pace since 1990.
Chinese renewed share rout has roots in the debt mess: an eye-popping rally late 2014 and early 2015 was fueled in part by official media commentary that championed the surge as a new way for companies to finance growth and repay borrowing. But instead of companies deleveraging, the result was a surge in margin traders taking loans to pile in as the number of equity investors surpassed the number of communist cadres. When the inevitable bust came, policy makers responded to cushion the fall.
The meddling has proved largely ineffective and often counterproductive: Leaders had to abandon a newly imposed stock circuit-breaker system introduced on Jan. 4 after price plunges cut short trading sessions twice last week. Even as regulators tried to calm sentiment, the People’s Bank of China surprised traders as it weakened the yuan the most since August by cutting the currency’s daily reference rate against the dollar.
Meantime, the central bank has been spending hundreds of billions to offset massive capital outflows and support the yuan. Its stockpile of foreign exchange reserves plunged by $513 billion in 2015 to $3.33 trillion.
With global assets from commodities, U.S. blue chips and emerging currencies shaken this year by China’s sliding equities and weakening yuan, policy makers have been criticized.
"The government has made a complete hash of the past six months in terms of sending signals," said Fraser Howie, co- author of the 2011 book “Red Capitalism: The Fragile Financial Foundation of China’s Extraordinary Rise."