Decentralized Stimulants

I learned something today about China's massive stimulus package: Beijing is going to ask puppet banks and agencies to get the economy started while it largely watches from the sidelines.

From Reuters:

Photo from China Daily

HONG KONG (Reuters) - Beijing may criticize American consumers for spending money they do not have, but the truth is Chinese leaders do the same, they just make sure it doesn't end up on their account.

In its $585 billion economic stimulus package, the central government is contributing just a quarter of the funds needed, leaving the rest of the tab to banks, local governments and the private sector.

By comparison, the U.S. Treasury is expected to fund all of America's $787 billion economic recovery plan by incurring more debt through the issuance of Treasury bills.

But just like in the West, there's no such thing as a free lunch.

The Chinese central government might have successfully transferred most of the risks and financing costs to banks and local governments from its own balance sheet, but if bad debt piles up the chickens will still come home to roost in Beijing.

China and the United States leverage themselves in different ways. America uses government credit to raise money directly from the market. China uses quasi-government financing, so that the real costs of the plan -- though indirectly ultimately a cost to Beijing -- are impossible for investors to gauge.

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I had to read this report a couple times. It's a bit confusing. But my take on things is that China is simply pushing the burden from the central government to institutions backed by the central government.

By funneling the money widely through government-backed banks and other agencies, it seems as though China can spend an unlimited amount of money in the name of "economic stimulus." It basically gives them a blank check. The whole process will get so muddled up that it'll be very difficult for anyone to understand how much money is being spent.

Seeing that China's government is (rightly) very concerned about stability, I can see why they choose to stimulate the economy in this manner. They need their plan to work.

Deflation may be beginning in China. It's very possible that things are going to get worse before they get better. China wants to have as much ammunition as possible to keep China's economy moving in the right direction.

Only time will tell whether China and its tricky stimulus methods will be effective enough to stop the worldwide credit crunch.