NEW DELHI – Progressive economists tend to view the massive stimulus package China deployed in response to the 2008-09 global financial crisis – which amounted to 12.5% of GDP – as a bold Keynesian masterstroke that every government should seek to emulate. The World Bank and the International Monetary Fund also sang China’s praises, as did developing economies that benefited from the resulting commodity boom.
But as economists took a closer look, a more complex picture began to emerge. While the mega-stimulus was undeniably effective in the short term, it also distorted the quality of China’s growth and sowed the seeds for many of the country’s current problems. This has prompted a broader reassessment of the government’s role in managing the economy. It turns out that when the state exercises too much control, it often does more harm than good.
Of course, China’s initial stimulus package – launched at the end of 2008 and running through 2010 – did not mark the end of government support. By allowing local governments to borrow off the books, effectively guaranteeing the bonds of local construction firms, China provided massive support to the infrastructure and real-estate sectors and extended the stimulus for another decade. Consequently, these two sectors now account for roughly one-third of total demand, far surpassing the levels in the European Union, Japan, and the United States.
A recent Brookings conference paper by Princeton economist Wei Xiong and his co-authors offers sobering insights into how China’s prolonged government stimulus has affected private-sector activity. Analyzing local data, they show that, contrary to the expectations of standard Keynesian models, provincial GDP growth was strongly correlated with both corporate profits and retail sales between 2002 and 2008. Remarkably, those correlations disappeared entirely from 2011 to 2019. A related analysis in the same paper finds that city-level productivity growth – controlling for capital and labor inputs – was robust before the stimulus but declined significantly in the subsequent years.
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