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Hu Yuwei: Concerns over China’s plans to allow rise in budget deficit should not be overstated

2016-03-09

By Hu Yuwei    Source: Global Times    Published: 2016-3-9

 

China`s deficit-to-GDP ratio has been budgeted at 3 percent for 2016, up from last year`s actual ratio of 2.4 percent, according to this year`s Government Work Report delivered by Premier Li Keqiang on Saturday. This ratio is the highest level since 1949, and reaches the red line of the Treaty on European Union, which was drafted in 1991 and requested deficits in its treaty members at no greater than 3 percent of GDP.


Regarding this, some China observers are concerned that the unprecedented fiscal deficit arrangement could increase the country`s fiscal risks. I tend to believe the 3 percent fiscal deficit ratio is only a short-term target, and there`s nothing odd about it.


First, the Treaty on European Union was drafted more than 20 years ago and was based on the European economic circumstances back then, so considering the swift global economic development and different economic realities of different nations, whether the 3 percent requirement is still necessary is debatable. Furthermore, China has long kept a comparatively low deficit-to-GDP ratio, and the figure is lower than in some major developed economies like the US, Japan, and European economies like the UK and Spain.


Second, the main aim for increasing the fiscal deficit is to boost sustainable economic development through supply-side reforms, given the flagging internal and external economic situation. Priorities including reducing overcapacity, destocking and deleveraging, as well as reducing business costs have been put on the table, and are expected to see substantial progress this year. To some degree, such measures could impact employment, particularly in dealing with zombie enterprises, which is why the government has created a fund of 100 billion yuan ($15 billion) to help find new employment in 2016 and 2017 for laid-off workers.


Furthermore, as the need for tax cuts in all industries has been clearly stated in Premier Li`s work report, it will inevitably put more pressure on the government`s fiscal budget. In this regard, a mild increase in the fiscal deficit is the proper method to ensure stable economic development. But it should be noted that, if inappropriately used, fiscal policies could be a double-edged sword. A higher budget deficit that is financed by government borrowings could drive up the interest rate in the credit market, and reduce investment enthusiasm from the private sector, reducing the effectiveness of fiscal policies.


But the 3 percent deficit-to-GDP ratio targeted by China this year is also meant to provide more room for cutting taxes and fees. The possibility for increased government expenditure to squeeze out the room for private investment is very small.


Tax cuts play a significant role in boosting the real economy. If certain tax cut measures are effectively conducted by the government, enterprises are more likely to be inspired to enhance their pursuit of entrepreneurship, as they would have more capital to execute upgrading in technology and manufacturing facilities, making it more possible to achieve fruitful achievements in China`s supply-side reforms.


Certainly, the government has the intention to increase expenditure, but it is meant to improve total factor productivity under the framework of supply-side reforms. Meanwhile, it is expected that increased government expenditure could bring along increased private investment through public-private partnership projects, which can spur overall investment, rather than squeezing out private investment. Therefore, increased government expenditure will not necessarily stifle private investment.


What`s more, economic development requires more than fiscal policies. Besides the government`s fiscal measures, a combination of support from proper monetary policy, enhancement of institutional innovation and strengthened structural reforms is also urgently needed. Only through joint efforts can China achieve sustainable development.


The author is a research fellow at the Chongyang Institute for Financial Studies, Renmin University of China.

Key Words: deficit   China   economy  

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