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98 Deleveraging, What Deleveraging
already. Wage inflation in Shenzhen and other cities has been running at 20%
per year since 2009, which reduces the profits of companies such as Foxconn,
Nike and others. Worldwide food prices, such as soya beans and pork meat, are
rising, which hurts countries like Argentina. The hukou system can be solved
but the cost to China’s government will be roughly $1.3 trillion. Who is going
to pay for it – the central or local governments Until that problem is solved,
China’s growth rate will be 6-7%. It is not easy to move 400 million workers from
agriculture into more productive industries.
Yi Huang observed that the big jump in the Chinese debt-to-GDP ratio since
2008 came mainly from the $4 trillion stimulus package. It took the form of a
credit expansion directed at stable and local government investment vehicles.
This huge amount of liquidity, which encouraged the buying of land, ended up in
domestic banks deposits and, through Hong Kong, in US dollars. Investors then
borrowed these US dollars and, in doing so, they bet on a depreciation and on
profits from financial intermediation, which is dangerous. This round-trip process
is related to financial repression in China and to the way credit is allocated in
the domestic economy. This lack of financial development, rather than too much
debt, is the reason why the Chinese authorities are now proceeding to financial
market liberalisation. To deal with the hukou problem, China is abolishing its
one child policy as a way of increasing labour supply and is reforming its system
of land property rights.
The authors then reacted to these comments. Lucrezia Reichlin first responded
to Angel Ubide about the shock to asset prices. The point is that this is not just
about potential income but also about asset price volatility. This is important when
comparing the US and Eurozone policies. In the US, the sustained quantitative
easing policy, combined with easier fiscal policy, made the deleveraging process
less painful. Reichlin also accepted the point by José Luis Malo de Molina that
sequencing is good in principle but very difficult in practice, especially as there is
still no fiscal policy tool in the Eurozone. Even if a Eurozone fiscal policy tool did
exist, the question of what would be a credible fiscal framework remains open.
Regarding the issue of dealing with the banks at a very early stage, she disagreed
with Fabio Panetta. The first phase of the crisis in the Eurozone was mainly an
interbank market story – the interbank market dried out because of counterparty
risk. Dealing with banks at an early stage has the advantage of dealing with
counterparty risk, establishes clarity and distinguishes between the good and the
bad part of the banking system. For a long time, the ECB was providing liquidity
to everybody without knowing what was on the balance sheet of each bank. It is
only now that we are dealing with that.
The banking system has become very fragmented geographically because we
have not been able to deal with sovereign risk and bank risk. No matter what the
size of the ECB’s balance sheet is, the transmission mechanism does not work
because interest rates in Spain, for example, are much higher than in Germany.
Even though some progress has now been made with the banking union and
other aspects, the Eurozone faces the more traditional issue of low inflation. The
tools used by the Fed ought to be recognised.