Liu He – Who he?

Well, just possibly, Liu He is the most important economic policymaker in the world. In a formal sense, he has no more impressive a title than “Economic Adviser” to China’s President Xi Jinping, who has just given himself an open-ended grip on power over the world’s second biggest economy.

He (Mr Lui that is, pardon the pun) may, or may not be the “anonymous person with authority” who wrote an article in the People’s Daily in May 2016 articulating the need for structural reform. But we do know that he was accorded the considerable honour earlier this year of being the only keynote speaker at one of Davos’ main sessions who was not a national leader.

Has China’s change gone unnoticed?

It is often the case that seismic change in China comes without some great declaration from the metaphorical heights of the Forbidden City. A small experimental commune in Chayashan, Henan province, was the early warning of the catastrophic Great Leap Forward. Similarly the obscurely named “May 16 Notification” of 1966 was the harbinger of the Cultural Revolution.

In the late 1970s, few realised that the snappily named “Household-Responsibility System” marked the start of key agricultural reforms that marked the beginning of an astonishing economic transformation of the Middle Kingdom.

We would argue that the evidence suggests the article of 9 May 2016 may well be an equally pivotal moment. Hopefully a harbinger of a benign change in China’s economic direction.

It is perhaps germane to recall the gist of the article, as reported by Reuters.

“China may suffer from a financial crisis and economic recession if the government relies too much on debt-fueled stimulus, the official People’s Daily quoted an “authoritative person” on Monday as saying.

“The People’s Daily, official paper of the ruling Communist party, in a question and answer interview quoted the person as saying excessive credit growth could heighten risks and trigger a financial crisis if not controlled properly.

“Trees cannot grow to the sky. High leverage will inevitably bring about high risks, which could lead to a systemic financial crisis, negative economic growth and even wipe out ordinary people’s savings,” the person, who was not named, said in response to a question on whether stimulus should be used in future economic policy.

“We should completely abandon the illusion of reducing leverage by looser monetary conditions to help accelerate economic growth.”

This time they’re serious

So are these more than pious platitudes to placate the many foreign critics (amongst whom we number ourselves) of China’s credit-fuelled growth model?

It is easy to be cynical, but the hard evidence would suggest that the authorities are serious about rebalancing growth. That is, away from its dependency upon ever larger dollops of mis-priced capital to mobilise resources (ghost towns, roads to nowhere, white elephants) and towards greater productivity, better returns on capital, and more rational pricing of that capital.

In the first place, it is clear that China is steadily tightening monetary conditions, as seen in monetary conditions indices and the recent course of interest rates, leading to a more rational pricing of capital (see Charts 1 and 2 below).

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