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Easing liquidity not a cure-all for faltering economy

By Zhou Junsheng (Global Times)

08:13, May 22, 2012

When China's central bank announced it would slash the reserve requirement ratio (RRR) at commercial banks, many argued that the 400 billion yuan ($63.3 billion) worth of liquidity that this cut is expected to inject into the market will help revive the nation's tepid economy.

As a host of recent economic indicators seem to indicate, China's economy is well on its way to a period of severe slowdown. In April, for instance, China's producer price index (PPI) fell 0.7 percent from the previous year, bottoming out at the lowest level since December of 2009 and indicating a slump in demand. Meanwhile, the domestic fixed assets invest growth rate stood at 20.2 percent during the first four months of 2012, a nine year low.

While these and other figures released over the past several weeks indeed paint a grim picture of China's economic health, an RRR cut will do little to reverse many of the downward trends visible at the moment. Actually, one of the few things China's economy is not suffering from is a lack of liquidity. The most pressing problem currently facing the nation's economy is a lack of confidence in the consumer and producers' markets, which an RRR reduction will do little to address.

One can clearly see a drop in domestic demand behind the dramatic plunge in import growth, which rose by a scant 0.3 percent in April, far below the 10.9 percent gain the market had been expecting and the 5.3 percent increase seen in March. Furthermore, as China's economy slows, a recent shift in bank lending indicates that enterprises are loosing interest in expansion and digging in for what could be a prolonged downturn. According to statistics from the People's Bank of China, last month 535 billion yuan in new loans were made to non-financial enterprises; yet, only 24 percent, well below average, of the credit extended was in the form of long-term business loans.

In the current climate, I'm afraid that easing liquidity will do more harm than good for China's economy. A surplus of money could very well push up the country's consumer price index (CPI). Although the growth rate of China's CPI eased slightly in April, after hitting a 20-month low of 3.2 percent in February, the government still has its work cut out for it when it comes to controlling prices, especially for food. In April, food prices, which are heavily weighted when it comes to calculating China's CPI, shot up by 7 percent year-on-year.

Instead of pumping more money into the market, I would urge the government to cut taxes for both companies and individuals. A lighter tax burden would increase consumption by leaving more disposable income in the pockets of tax payers and give enterprises more incentives to expand their output. With steady gains in supply and demand, the nation's economy could gradually regain some of the ground lost in the current slowdown.

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