Unmade in China

China has the wherewithal and will to do whatever it takes to prevent an even more dramatic economic downturn. Since September, the benchmark oneyear lending rate has been cut 216 basis points to 5.31 percent, and additional cuts are expected as early as next month.

There is plenty of scope for fiscal stimulus as well. China’s budget deficit last year was about 180 billon yuan — less than 1 percent of GDP. Debt levels are also modest by international standards. It’s already-announced 4 trillion yuan stimulus package consists largely of previously announced or intended programs; additional spending programs and tax cuts are likely. The Ministry of Finance’s Research Institute for Fiscal Science projects China’s budget deficit to be 3 percent of GDP this year.

However, China continues to invest at an incredible pace. Fixed investment in urban areas rose 26.1 percent last year after a 25.8 percent increase in 2007. This is in stark contrast to the U.S., where investment was exceptionally poor during the recent expansion phase; company borrowing mainly went toward stock repurchase schemes.

China’s problem appears just the opposite — investing too much and being terribly inefficient. It has reached the point of diminishing returns, with growth slowing to 9 percent in 2008, down from 13 percent in 2007 despite an increase in factories and equipment. The excess investment led to excess production, which resulted in a severe oversupply of manufactured goods.

Although it is difficult to discern from press reports and congressional rhetoric, in recent years the U.S. Treasury has pursued a wider range of issues with China than the bilateral currency rate. The U.S. has encouraged China, through a commitment to a stronger social safety net (including healthcare and unemployment compensation), to boost domestic consumption and raise labor costs.

And as Geithner was talking tough about currency manipulation, China was earmarking 850 billion yuan over the next three years to reform its healthcare system. Currently the Chinese government accounts for about 42 percent of the country’s healthcare expenditures which, when compared to figures of 49 percent in the U.S. and 87 percent in the UK, puts China in the lowest quartile of countries according to the World Health Organization. The cost of the program is reported to be approximately equal to the country’s total healthcare expenditures in 2005.