Moderating in the Middle (Kingdom)

Shortly after Chinese Premier Li Keqiang declared he wouldn’t let Chinese growth fall below 7% this year, China introduced a new stimulus plan, but with a twist. Instead of the credit and spending binges of yore, officials are cutting some taxes, removing some red tape and trying to attract private investment in infrastructure. Sure, the near-term impact on growth is likely small, and as market-oriented reforms go, they’re incremental—but they’re evidence officials remain dedicated to reforming the economic system, which is a positive for markets, in our view.

Measuresinclude scrapping the VAT and certain business taxes for China’s (about) six million small firms selling less than 20,000 yuan (about US$3250) a month. The government also plans to remove tariffs and lower administrative fees for service firms that export and streamline customs clearance. Meanwhile, banks will be encouraged to lend to exporting companies, and importers’ loan rates will see a cut. Finally, officials will establish a “railway development fund” to increase funding opportunities for railway infrastructure, especially to poorer rural areas. Ultimately these targeted measures aim to increase job opportunities, boost pay and (even geographically) spread economic activity.

For instance, lower taxes will give businesses freedom to deploy their additional cash as they see fit—whether towards higher employment and pay or other types of business-bettering investments, like technology. While officials’ lip service seemingly suggests they’re targeting the former, both would be indisputable positives for China. Further, simplifying customs procedures and reducing export fees lowers costs for both Chinese exporters and foreign consumers. This could ultimately give Chinese trade a small tailwind as both trade parties—less burdened by fees and regulations—may transact more easily and willingly. And increasing railway infrastructure likely spreads economic activity to poorer areas and provides much-needed infrastructure in a region largely bereft of it. But even more notable, after providing the seed money, the Chinese government will encourage private investors to take part in the railway development fund—even offering them “ownership and management rights for inter-city railway links and municipal rail links.”

Interestingly, the majority of stimulus here involves no new public funding, but instead leaves more money in firms’ pockets by allowing them to keep and spend profits as they see fit—a potential economic positive as the private sector tends to spend better and more efficiently than the public. Especially in China, where private firms tend to have a much higher ROI than the bloated, state-run firms.

In most other nations, a similar stimulus package wouldn’t be all that noteworthy. But consider China spent $1.1 trillion in infrastructure spending in 2012 and frequently loosens crude loan quotas capping bank lending as a means to goose liquidity and growth. Slashing tax rates and reducing red tape may not provide the same GDP windfall relaxing loan quotes and spending big did, but in the long run it’s likely preferable. And fits better with a regime that says it wants to open the economy more—especially in light of recent reforms to open up China’s shadow banking system, remove the floor on interbank lending and allow its currency to trade more freely and widely. China’s years of heady, double-digit growth may be a thing of the past, at least for the foreseeable future. But the reforms the government is gradually enacting—if continued—may actually make the Middle Kingdom more market friendly than fast growth alone.