Don’t expect Chinese stimulus to save the global economy

Responding to the 2008 financial crisis, China unleashed a fiscal package of 4 trillion yuan ($586 billion at the time), plus an unprecedented surge in bank lending that spurred demand for commodities and consumer goods. All that, in the process, lifted trading partners such as Australia and Brazil and major global companies. It repeated the exercise on a smaller scale in 2016, using fiscal spending to revive the property market.

This time it's different: China's planned stimulus is unlikely to do much to reverse the global economic slowdown. With China's economy more than twice as large today, accounting for more than 18% of global output, policymakers are reluctant to unleash something on the scale of the 2008 blitz, which left a legacy of debt and record corporate defaults. Beijing has promised a package of extra government spending and tax cuts worth about 4.5 trillion yuan. Even though it's also quietly allowing local governments to increase off-balance-sheet debt to fund infrastructure, that's less than half the size of the 2008 support relative to gross domestic product.

Also unlike in 2008, the government is contending with virus outbreaks and appears determined not to use the property sector to bolster the economy. President Xi Jinping's strict "Covid-zero" approach to curbing infections means that the potential for disruptions to growth this year is significant and that the country will be a drag on the global economy.

China's Real GDP Growth

Warnings of a global recession are growing in number. Central banks across the world are raising interest rates to curb inflation, and Russia's invasion of Ukraine is sending shock waves through global supply chains. The International Monetary Fund last month slashed its world growth forecast for 2022 to 3.6%, down from 4.4% in January before the war. The world faces a "perfect storm" of potential recessions in China, the European Union, and the US, former IMF chief economist Kenneth Rogoff says.

Xi has vowed an "all-out" effort to increase infrastructure in China. This includes massive wind and solar power plants in the nation's deserts, with a first batch of renewable-energy projects in the interior set to add 97 gigawatts of generation capacity—enough to power Mexico.

Australia & New Zealand Banking Group has likened the planned stimulus to the one rolled out during the global financial crisis. Citigroup Inc. has called it China's version of a New Deal. But skeptics argue the country can't reboot its economy while also enforcing lockdowns to curb Covid. They say spending announcements to prop up the economy lack firepower.

China's Share of Global Economic Output*

Officials are trying to do the impossible, says Helen Qiao, chief economist for Greater China at Bank of America: Hit a 2022 growth target of about 5.5% and maintain Covid zero while also reducing debt. "In previous cycles, policymakers predictably came up with coordinated easing measures in monetary, property, and fiscal policies to boost investment growth," she says. "This time round, China seems to have much more reservation against leverage buildup, along with concerns on oil-led inflation and Fed tightening. Arguably, a long list of easing measures have been rolled out so far, but with limited coordination and effectiveness."

There's a contradiction between the government's vow to add stimulus and its Covid-zero policy, which requires mobility restrictions wherever there are more than a handful of cases. There's no inclination to ease the policy, in part because of low vaccination rates among people older than 80. Political considerations also play a role; there's a Communist Party congress in the fall during which many officials will be tapped for promotions. Top leaders have warned against publicly questioning Xi's strategy, and the Politburo Standing Committee pledged to "fight against any speech that distorts, questions, or rejects our country's Covid-control policy."

Full or partial lockdowns of dozens of cities— including Shanghai, home to 26 million people—caused China's economy to contract in April from a year earlier, data such as traffic volumes and the official purchasing managers index indicate.

Even though lockdowns didn't start until March, their impact was visible in quarterly earnings reports of multinationals that rely on China's consumer market. Foreign companies saw their profits drop 7.6% in the first quarter, to 471 billion yuan, the lowest level since the first quarter of 2020.

Gucci owner Kering SA says the lockdown in Shanghai was "extremely difficult." Starbucks Corp. reports that same-store sales in China—its second-largest market—plunged 23% in the quarter because of pandemic restrictions. Sales at KFC outlets fell 9% from a year earlier. "The case count, duration, geographical coverage, and restrictive measures are far more extensive than previous outbreaks," Joey Wat, chief executive officer of Yum China Holdings Inc., which operates KFC outlets in China, told investors on a call. The company predicts second-quarter sales will be worse.

Lockdowns and other Covid restrictions have affected manufacturing and logistics, with supply chain snarls at major industrial hubs likely to push global inflation higher, according to Bloomberg Economics. The impact of China's supply shock will be particularly severe in Australia, Canada, and South Korea, where more than 10% of parts for manufactured goods come from China.

For all these reasons, China may "not be as helpful for growth as past cycles," says Craig Botham, chief China economist at Pantheon Macroeconomics. "Best case is that China puts a floor under some commodity demand late in the second half," as the infrastructure push spurs imports.

Larry Hu of Macquarie Group Ltd. is more optimistic, sticking to his China growth forecast of 5% for the year. Frederic Neumann, co-head of Asian economic research at HSBC Holdings Plc, expects the stimulus and lockdowns to more or less cancel each other out. "It's like driving a car with the foot pressing the accelerator while the hand brake is engaged," he says. "Plenty of action but little traction."

Responding to the 2008 financial crisis, China unleashed a fiscal package of 4 trillion yuan ($586 billion at the time), plus an unprecedented surge in bank lending that spurred demand for commodities and consumer goods. All that, in the process, lifted trading partners such as Australia and Brazil and major global companies. It repeated the exercise on a smaller scale in 2016, using fiscal spending to revive the property market.

This time it's different: China's planned stimulus is unlikely to do much to reverse the global economic slowdown. With China's economy more than twice as large today, accounting for more than 18% of global output, policymakers are reluctant to unleash something on the scale of the 2008 blitz, which left a legacy of debt and record corporate defaults. Beijing has promised a package of extra government spending and tax cuts worth about 4.5 trillion yuan. Even though it's also quietly allowing local governments to increase off-balance-sheet debt to fund infrastructure, that's less than half the size of the 2008 support relative to gross domestic product.

Disclaimer: This article first appeared on Bloomberg, and is published by special syndication arrangement.