As economists debate the wisdom and effectiveness of Beijing’s stimulus and loose monetary policy, the market has come to its own, resoundingly favorable, conclusion. The Shanghai Composite Index has risen more than 50% since January, with property stocks among the best performers, reflecting confidence in a sector that is a key driver of the economy.
The confidence is not totally unfounded. After a period of tight policy aimed at controlling growth and preventing a bubble in the property market, Beijing is starting to ease off the brakes. Economists suggest that this easing will have a positive knock-on effect in the economy as a whole. Rising investment in real estate – spending was up 6.8% in the first five months of the year – has been matched by higher demand in large cities. In Beijing and Shanghai, where sales were up 50% and 62%, respectively between January and May, that demand is starting to encourage developers to once again start buying land. In turn, expectations of strong demand are boosting the prices of key commodities.
Behind the encouraging headline figures, however, there is real reason for concern. There are some positive signs in the economy, but do they really justify the rally in asset prices? Or is it simply speculation, fueled by easy access to money, pushing prices beyond levels that can be met by real demand?
Much of the economic growth being witnessed is investment-led. Fixed-asset investment rose 40% in May, with central government-initiated investments alone up 28%; investment by local governments increased by 33.4%. There is little sign of the emphasis on consumption that Beijing has trumpeted in the past as the key to sustainable growth. While a short-term realignment toward investment may have been necessary, there are real risks associated with the approach. Ongoing lending growth could create a liquidity-driven asset bubble, perhaps creating a new non-performing loan crisis.
Beijing knows what is at stake. Lending growth was relatively slower in the first quarter and economists expect a gradual tightening of credit as confidence in the economy is restored. For the time being, however, regulators hoping to rein in rampant lending are politically paralyzed. Added to that, front-loaded lending means that while huge sums have been lent out, it may not be until later in the year that the effects of that lending are felt.
If it hopes to lay the foundations for sustainable long-term growth, Beijing will need to address the paralysis, and give the market a real reason to trust in the health of the Chinese economy. By trying to spend its way out of a downturn, which in turn leads to inefficient distribution of capital, the government risks making a bad situation far worse.