Photographer: Qilai Shen/Bloomberg

Party Congress Means China Has Spent Year-End Surge Already

  • China approaching budget deficit limit after growth support
  • Government is seeking to reform fiscal habits and curb debt

In the run up to China’s blockbuster Communist Party congress later this year, officials have spent big to ensure the economy is humming along nicely when the conclave begins.

It’s after that that things get interesting. With the central government’s deficit limit capped at 3 percent, officials usually turn on the taps around November and December, once they know they’ll have raised enough to fund a late-year splurge. Not this time.

A push to smooth out spending means the fiscal pump is unlikely to go into high gear at year end, which is when economists see growth moderating toward the government’s baseline of 6.5 percent. While policy makers have quasi-fiscal options up their sleeve -- like accelerating infrastructure project approvals or ratcheting up lending via policy banks -- efforts to curb profligate local governments and limit debt may restrain those channels too.

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"It’s China’s political-business cycle: this year is very important for the political transition, so they front-loaded fiscal spending to ensure a stable economic backdrop," Larry Hu, head of China economics at Macquarie Securities Ltd. in Hong Kong. "China’s economy has a fiscal system and a shadow fiscal system. If growth really slows to threaten the target, then we’re going to see spending."

The question is, how much.

China ran a fiscal deficit of 918 billion yuan ($137 billion) in the first half, or more than 2 percent of economic output during the period, Bloomberg calculations show. That’s a record both by value and share. The spending fueled better-than-expected economic growth of 6.9 percent in the first six months, and infrastructure investment surging at over 20 percent.

China International Capital Corp. analysts led by Liu Liu say the budgeted deficit will be 1.46 trillion yuan in the second half, versus 2.46 trillion yuan in the same period last year.

Clashing Priorities

The world’s second-largest economy still depends on government spending at all levels, as construction of things like roads and railways can be a key buffer when private investors start pulling back or, as now, political sensitivities make robust growth especially important. But those priorities are now clashing with the need to clamp down on indebtedness at lower levels of government, and the desire to avoid a year-end spending glut.

As fiscal reform continues, the government’s spending pattern will be smoother, said Hua Changchun, global chief economist at Guotai Junan Securities Co. in Shenzhen.

"After the 19th Congress, the government will pay more attention to deleveraging," Hua said, forecasting infrastructure investment to decelerate next year. "That tightening will hurt momentum in the first half of next year."

In the past, officials have been able to use off-balance sheet spending, such as policy bank loans and funds raised through local government financing vehicles, to keep their deep pockets open.

Augmented Deficit

The so-called augmented fiscal deficit, a ratio that includes disposable revenues from land sales, policy banks and other channels, was estimated at more than 10 percent last year, according to the International Monetary Fund.

That additional ammunition will be strained this year too. With top leaders tightening their oversight of local government financing and on substandard public-private partnership projects, a key fundraising channel for authorities is being put under stricter review.

“Fiscal support will not pick up the slack in this second half," said Ding Shuang, chief China economist at Standard Chartered Plc in Hong Kong. “The off-the-book spending won’t swell, either. Now the government is keeping a very tight lid on local government financing.”

— With assistance by Yinan Zhao, and Xiaoqing Pi

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