From Stimulus to Restructuring

By Zhang Xiangdong and Xi Si
Published: 2009-07-10

Translated by Tang Xiangyang
Original Article:

The re-emergence of the Ministry of Environmental Protection (MEP) as a regulatory body with teeth, is an indicator that there has been a shift in the Chinese government's macroeconomic focus.

After remaining conspicuously silent while investment surged into various high-polluting and energy intensive projects during the past 7 months, the MEP has recently stepped back into the fray by suspending construction of the Jinsha River hydroelectric dam.

The Ministry also undertook other disciplinary action, placing limits on other construction projects being carried out by the dam's investors, the China Huaneng Group and China Huadian Corporation and declaring a moratorium on the approval of any iron and steel construction projects in Shandong Province.

This is being interpreted as a clear sign that the government is starting to shift its macroecomic focus.

The central government's plan to increase domestic demand is now entering it's second phase - shifting from an initial focus on stimulating the economy to going ahead with a fundamental restructuring of the macroeconomic fundamentals.

The shift not only marks an end to the period of loose regulation that accompanied the recent surge in investment, but it can also be seen as an attempt to avoid the over-capacity that emerged in the wake of a similar stimulus package that was introduced to avoid the impact of the Asian Financial Crisis 10 years ago.

However, more than anything else, the move should be interpreted as the central government attempting to regain control of the economy after unleashing an investment boom that ensured a surge in growth that would keep the economy ticking over.

Although the stimulus package will continue to be carried out as originally planned, it will now be combined with a new emphasis on economic restructuring.

Investment will be encouraged in areas that benefit the livelihood of ordinary people and a focus will be placed on upgrading technology in key sectors of China's economy.

Many ministries and departments view this focus on technical upgrading as an additional round of investment, but unlike the government backed stimulus package of the past seven months, they hope this investment program will be backed by enterprises.

A Correction
The recent increase in regulatory activity over at the Ministry of Environmental Protection, revealed the central government's intention to start taking the task of restructuring the country's economy seriously.

Statistics released by the MEP show that from December 2008 to the end of May 2009, the national environment watchdog only approved 365 construction projects, with a total value of 1.4428 trillion yuan.

However, according to National Development and Reform Commission (NDRC) numbers, 123,878 newly-commenced projects were begun between January and May 2009, some 339 times the number of projects that had received official approval from the environmental watchdog.

If you take into account projects that were already under construction, which totaled 216,420, the number of projects that have not received approval from the MEP is more than 590 times the number that have been approved.

According to an expert with the Academy of Macroeconomic Research at the NDRC, the huge growth in unvetted projects was due to local governments attempting to get as many projects as they could underway as quickly as possible.

Although it's undeniable that this surge in investment has spurred China's economic growth, it's also been the source of many problems.

The investment growth rate for the first 5 months of 2009 hit 32.9%, but the growth in industrial value-added for national-scale projects over the same period only increased by 6.3%.

Sales of manufactured goods has also been down. Data released by the Ministry of Industry and Information Technology (MIIT) reveals that in May, the sale of industrial goods across the country was down another 0.5%, with light and heavy industry falling 0.3% and 0.6% respectively.

An official with the MIIT told this reporter that the fact that a high rate of investment growth is not being matched by an increase in business profits made two points increasingly clear: although the stimulus provided by the huge amount of investment unleashed in the fourth quarter of 2008 has had a powerful effect, the ability of private enterprise to match the central government's funds is currently limited, furthermore some industries have major problems with over-capacity.

He warned that, if this investment environment was allowed to continue, the macro-level measures introduced 7 months ago were likely to end up causing problems with over-supply similar to those that emerged in 1998.

At that time, in order to deal with the Asian Financial Crisis, the central government launched a national investment drive. Though the policy succeeded in lifting the Chinese economy, it also brought about excess capacity in some fields and caused other problems.

Althoug the stimulus package has been effective in spurring Chinese economic growth, now faced with the problem of an excess of under-regulated investment, the focus of macroeconomic policy has shifted to moving forward with an agenda to restructure the economy.

The Next Step
The new focus of macroeconomic policy is on restructuring the Chinese economy.

In detail, the MEP will strengthen the environmental approval process that all industrial investment projects are required to pass through and the Ministry of Finance (MOF) and the China Banking Regulatory Commission (CBRC) will restructure the rules in relation to credit institutions.

Aside from strenghening the environment impact assessment process, the reforms also seek to speed up the process of upgrading industrial technology and ensure the outdated capacity is eliminated.

Furthernore, the State Councial has made it clear that a detailed development plan concerning how to restructure ten key sectors must be released before the end of July,

According to sources familiar with the situation, as excess capacity is a shared problem for each of these ten sectors, the new program will not only focus on expanding domestic demand, but will also involve more fundamental economic restructuring.

Encouraging Companies to Invest
This shift in macroeconomic focus, particularly the process of upgrading industrial technology, will require a huge amount of investment.

With the central budget already under strain, it's unlikely that the central government will be able to provide funding, though it can support the policy through various subsides and tax rebates, it's unlikely that it will take the leading role as it has i the recent round of economic stimulus. Instead, according to an official at the MOF, it's hoped that companies will step up as the main investors.

Difficulties With Restructuring
The State Councial plans to allocate 20 trillion yuan to industrial technology investment. MIIT estimates that follow-on investment will amount to 460 trillion yuan. The first projects aimed at upgrading technology throughout these ten key sectors, started at the end of April.

Though the program is only just beginning, some problems have already emerged.

Banks have been slow in releasing loans and companies are reluctant to upgrade their technology.

Also, authorities a keeping a close watch on companies are expanding capacity under the guise of an investment to upgrade industrial technology.
Another difficulty emerges in relation to eliminating outdated industrial equipment. Recently, the China Association of the National Shipbuilding Industry and other ministries required local governments to report on which areas of the industry were to be scrapped, only to find the latter attempting to protect the local companies from restructuring so as to ensure government revenue and jobs.