China needs to take significant action to stimulate demand

[WORLD] China finds itself at a critical juncture as it enters 2025. The world's second-largest economy is grappling with sluggish growth, deflationary pressures, and waning consumer confidence. As global investors and policymakers watch closely, it has become increasingly clear that the time for cautious, incremental measures has passed. China now needs bold, decisive action to reinvigorate domestic demand and reignite its economic engine.

The Current Economic Landscape

Faltering Growth and Deflation Concerns

China's post-pandemic recovery has been far from smooth. The country has experienced its longest period of deflation since the late 1990s, signaling weak domestic demand and economic malaise. This deflationary trend poses significant risks to economic stability and growth prospects.

Wall Street's Bullish Outlook

Despite the challenges, major Wall Street banks have expressed optimism about China's economic stimulus prospects. JPMorgan describes it as 'the most comprehensive, coordinated policy easing in recent years'. According to Goldman Sachs, officials have 'finally altered direction amid rising economic headwinds and released a package of more robust and coordinated easing measures'.

Market Response and Investor Sentiment

The shift towards bolder monetary and fiscal policies has had a positive impact on Chinese stocks. The Shanghai Composite Index and Hang Seng Index were among the best-performing major financial assets last year. However, the rally in equity markets was already fading by the end of the year, indicating that more substantial measures may be necessary to sustain investor confidence.

The Need for Drastic Action

Shifting Policy Priorities

China's top leadership has recognized the severity of the economic situation. In early December, the government decided to prioritize domestic consumption, marking a significant shift in policy focus. This change in direction acknowledges that previous approaches have been insufficient to address the underlying economic weaknesses.

Comprehensive Policy Measures

To effectively spark demand, China needs to implement a multi-faceted approach that addresses various aspects of the economy:

Monetary Policy: The People's Bank of China has already taken steps to ease monetary conditions, but more aggressive measures may be necessary. Further interest rate cuts and liquidity injections could help stimulate lending and investment.

Fiscal Stimulus: Expanding government spending and increasing the fiscal deficit could provide a much-needed boost to the economy. Infrastructure projects and targeted investments in strategic sectors could help create jobs and drive growth.

Consumer Incentives: Implementing direct measures to boost consumer spending, such as vouchers or tax rebates, could help increase domestic consumption and support struggling industries.

Property Market Stabilization: Given the importance of the real estate sector to China's economy, targeted measures to stabilize property prices and support developers could help restore confidence in this crucial market.

Structural Reforms: Long-term economic health will require addressing structural issues such as income inequality, social safety nets, and market-oriented reforms to increase productivity and innovation.

Challenges and Risks

Balancing Short-term Stimulus and Long-term Sustainability

While drastic action is needed, policymakers must carefully balance short-term stimulus with long-term economic sustainability. Excessive debt accumulation or misallocation of resources could create new problems down the line.

External Pressures and Geopolitical Tensions

The re-election of Donald Trump as US President introduces additional uncertainty into China's economic outlook. Potential escalation of trade tensions and tariffs could impact China's export sector, necessitating an even stronger focus on domestic demand.

Managing Market Expectations

As China implements more aggressive economic measures, managing market expectations will be crucial. Overexuberance could lead to asset bubbles, while insufficient confidence could undermine the effectiveness of policy actions.

Expert Opinions and Forecasts

Growth Projections

Economists and analysts have varying projections for China's economic growth in 2025. According to research by Goldman Sachs, "China's real GDP growth is predicted to slow down to 4.5% in 2025 from 4.9% in 2024". However, with more aggressive stimulus measures, some experts believe that growth could potentially reach the higher end of the 3-4.5% range.

Policy Recommendations

Experts emphasize the need for a comprehensive approach to economic stimulus. As noted by Lizzi C. Lee, a fellow on Chinese Economy at the Asia Society, "While 5% is not out of reach, achieving it will demand decisive action, especially on property stabilization … given that housing accounts for about 20% of GDP and represents 70% of household wealth".

The Path Forward

Embracing Bold Economic Measures

To overcome the current economic challenges, China's policymakers must embrace a more aggressive stance. This may include:

Significantly increasing the fiscal deficit beyond the traditional 3% ceiling, potentially approaching 4% of GDP.

Implementing large-scale consumer incentive programs, such as expanded trade-in schemes for consumer goods.

Accelerating the pace of local government bond issuance to support infrastructure investment and economic growth.

Providing targeted support to key sectors, including the struggling property market and emerging high-tech industries.

Focusing on Domestic Demand

With external uncertainties looming, China's economic strategy must prioritize boosting domestic demand. The government's move in early December to favour domestic consumption has provided a much-needed boost to Chinese stocks. This emphasis on internal drivers of growth will be critical in navigating the difficult global economic situation.

Addressing Structural Issues

While short-term stimulus is necessary, China must also tackle underlying structural issues to ensure long-term economic health. This includes reforms to improve productivity, innovation, and market efficiency, as well as measures to address income inequality and strengthen social safety nets.

As China stands at this economic crossroads, the need for bold, decisive action has never been clearer. The cautious, incremental approach of recent years has proven insufficient to address the deep-seated challenges facing the world's second-largest economy. By embracing more aggressive stimulus measures and focusing on boosting domestic demand, China has the potential to reinvigorate its economy and maintain its position as a global economic powerhouse.

The coming months will be crucial in determining whether China's policymakers can successfully navigate these turbulent economic waters. As the world watches closely, the actions taken in 2025 will likely have far-reaching implications not only for China but for the global economy as a whole. The time for hesitation has passed – now is the moment for China to take the bold steps necessary to secure its economic future.