By the EO Editorial Board
News, Cover
Issue No. 575
June 25, 2012
Translated by Zhu Na
Original article: [Chinese]

In mid-June, Deutsche Bank issued a report into government debt in China.

The report noted that as of the end of 2010, the Chinese government had accumulated over 20 trillion yuan in debt, this calculation included government bonds, local government debt, bonds issued by the railway ministry and also other policy-related financing debts.

If we accept this broad definition of government debt, China's government debt to GDP ratio for 2010 came to 51.5 percent. This figure does not include the likely costs associated with dealing with the country's future environmental problems or the 18.3 trillion yuan funding gap that some experts have said will emerge in China's pension system by 2013.

Most scholars believe that fiscal deficits and government debt are taken on in order to increase spending so as to spur economic growth. This should lead us to ask just how effective were the recent increases in government expenditure in spurring economic growth?

In other words, has government spending been effective and is it worth having such high levels of debt?

In 1998, China's GDP grew by 7.8 percent, after an expansionary fiscal policy was pursued in the following year, this figure dropped to 7.6 percent in 1999 and only gradually rose back to double digit growth in 2003 and 2004 when the country's econmy grew by 10 and 10.1 percent respectively.

For the following two years, China's GDP growth rate remained at between 11 and 13 percent, reaching a peak of 14.2 percent growth in 2007.

It was the same in 2008, though the strenght of the "medicine" used to stimulate the economy was stronger, thus leading to even more severe fluctuations in the economic growth rate.  

The GDP growth rate in 2008 was 9.6 percent, and in the year that China's four trillion yuan stimulus package began to take effect, growth actually dropped to 9.2 percent.

In 2010, it shot up by 1.2 percentage points to 10.4 percent before slowing again in 2011, falling to 9.2 percent largely due to the impact of restrictions imposed on the country's housing market.

So, in order to lift GDP growth rates by one to two percentage points, the amout of government debt was lifted by ten percentage points and with the added side effect on increasing the severity of the fluctations in the rate of economic growth.

It's worth asking just how efficient this spending was.

In addition, as government expenditure began to occupy a greater share of total economic activity, this has also had a profound effect on income distribution, both in terms of how wealth is shared between government and the public and also between rich and the poor.

Data shows that China's fiscal revenue as a proportion of GDP is growing year by year. In 2011 the funds collected by government were equal to 28.8 percent of gross domestic product.

The proportion of returns from overall economic activity that flow to the government has also increased. This has a direct impact on both businesses and also the general public as their relative share shrinks.

The wealthly have also managed to increase their assets, either through the purchase of treasuries and local government bonds or through real estate investments. Some have also gained directly from being the beneficiaries of generous government investment in particular projects.

In this way, those with assets have been able to take advantage of deficit- and debt-backed spending in order to avoid the fate of most poorer citizens, many of whom have seen their wealth and savings reduced as inflation took its toll.

"The visible hand" can bring with it the power to manage, although not all of this administrative power will necessarily result in inefficiencies and rent-seeking behavior. That said, all government officials, to a greater or lesser degree, seem to have an in-built preference for "big government" that can intervene in all aspects of the economy.

Many years ago, the Chinese government proposed a series of reforms that would change the way in which government functions in China. The goal of the reforms was to turn the current management-style of governance into a more public service oriented style of governance.

The plan also involved the reform of state-owned enterprises and other measures that would separate off political or regulatory functions from enterprises, so that government gradually began to play a lesser role in microeconomic affairs.

However, in a lot of the projects that received large amounts of government investment and also in monopoly industries controlled by the state, the government still exercises considerable authority and control.


At the same time, the government has announced its intention to provide more public services such as education, health care and social security. However, this is likely to be the cause of a whole lot of trouble.

After all, the economic and public resources at the government's diposal are limited. If the government is not able to pull back from some areas, by attempting to rely on limited resources to establish a complete system of social welfare - a move that will ensure that economic growth is more sustainable in the long term - then it's possible that the government might have loaded too much on its plate and that it could forgo the chance to invest in other more long-lasting development opportunities.

One way of approaching the question of how much government debt is too much is to ask what are the "limits of government."

A "big government" which lack awareness of its "limits" is more likely to shift the current fiscal burden to the next generation through use of deficits and by racking up debt.

One consequence of issuing new debt to pay off older liabilities is that it leads to a loss of economic efficiency; a more serious consequence is that due to the heavy debt burden, some may soon begin to question the government's ability of pay its debts and it will become impossible to issue new bonds, which could lead to some kind of "government default".

The pension gap and environment debts mentioned at the beginning of this article are usually wheeled out as the standard examples of future generations being asked to pay for the debts incurred by their forefathers.

But why don't we also consider the government underfunding of future social security outlays for education, health care and pensions in the same way?

Of course, as Keynes once famously quipped, "In the long run, we're all dead;" but, even if we simply look at it from the perspective of trying to have a bit of a better life now and in the future, it's about time that we made it quite clear what exactly should be the limits on government behaviour in the economic sphere.

The article was edited by Paul Pennay