Despite the People’s Bank of China (PBOC) repeatedly lowering reserve ratios and interest rates, the effectiveness of these monetary measures appears to be waning. Over the past decade, the reserve requirement ratio for large financial institutions has been reduced from 20% in 2015 to below 10%, with interest rates also reaching historic lows. However, the impact of each additional unit of credit on economic growth has significantly diminished (5-year rolling change; now approximately 0.21), suggesting the economy may be approaching a liquidity trap. This implies that further monetary easing may offer only limited support to the real economy.
Moreover, the rise in household and corporate time savings reflects weak confidence in future growth, further undermining the effectiveness of monetary policy. Given China’s relatively low government debt-to-GDP ratio (currently around 84.8%) compared to other emerging and advanced economies, the key to reversing the current economic downturn may lie in aggressive fiscal stimulus rather than continued monetary easing. Expanding fiscal policy could provide the necessary boost to stimulate demand and restore confidence in the market.
