Abstract:
China has never heavily relied on budgetary spending to provide counter-cyclical stimulus. Instead, it mainly adopts a model where local governments, financial institutions and local government financing vehicles work together to boost investment. Statistics show that such a model has helped China stabilize its economic growth, but also increased the broad government debt to GDP ratio, raising concerns about the sustainability of government debt.
However, government debt risk is more correlated with inflation than with debt ratios. Since 2012, the gap between savings and capital formation in China's non-financial corporate and household sectors has been widening, while inflation has remained low. Rather than causing a debt crisis down the road, increasing debt and expanding government spending decisively during a downturn can aid the economy's recovery, increase future government revenues, and reduce output losses.
