Figure: Some analysts believe that after deep adjustment of the balance sheet, if it can be combined with the policy of increasing residents' income, it will help to comprehensively repair consumption.
Whenever the economy fluctuates, it is easy for economics to give birth to new ideas, the most typical of which is the Great Depression of the United States. The crisis prompted economists such as Irving Fisher and John Maynard Keynes to reflect and create macroeconomics. Today, China's economy has entered a new cycle and encountered some new problems. The academic community needs new ideas, new ideas and new methods to meet new challenges.
China's macroeconomics has long adopted the "troika" analysis method, which originates from the national economic accounting. From the perspective of expenditure, gross domestic product (GDP) is the sum of investment, consumption and net export.
"Troika" assessment of economic deficiencies
But now, the "troika" framework has shortcomings:
First, over emphasis on investment and neglect of terminal consumption. If the government tries to increase GDP growth, what should it do? According to the "troika" structure, net exports cannot be adjusted independently due to external constraints, and consumption is constrained by the total wealth, structure and expectations of ordinary families, which is not easy to change in the short term. Investment, especially public investment, is a relatively easy factor for the government to control.
Therefore, whenever the economic growth rate drops, the government generally chooses to increase investment to stimulate demand. The newly increased capacity invested by the government is finally digested by net exports and consumption. If the demand in Europe and the United States recovers, the capacity problem can be solved to a considerable extent. However, if the export is blocked and the market supply exceeds demand, the price will fall as a result. In the long run, the investment rate is high while the consumption rate is low, and there are risks of insufficient domestic demand, price decline and debt accumulation.
The second is to attach importance to module analysis and ignore the underlying logic. Why does economic growth decline? Why can't the "Troika" run? Some people think that the effective demand is insufficient, so it is suggested to increase investment to stimulate demand. However, over investment has led to price decline and debt growth, which in turn has constrained government investment. What's the problem? The key is the underlying logic. What is the underlying logic? The balance sheet is the underlying logic.
The third is to attach importance to quantity growth and ignore economic efficiency. "Troika" is a quantitative analysis method, which is easy to focus on quantity and ignore efficiency. In the past two years, the Chinese government has continued to release liquidity, but the money multiplier has declined, the efficiency of money transmission is insufficient, and funds are stagnant in the banking system. Loans and bond financing are delivered through state-owned enterprises, but the driving effect on economic growth and residents' income is reduced due to the decline of the expenditure multiplier.
In response to various challenges, many experts proposed to "change horses and track", abandon real estate and urban investment, and invest in new energy, new infrastructure, new technology and other "new troika". However, the author believes that we need to change the analysis method and decision-making logic of the past troika, go deep into the underlying logic, and attach importance to the price main line and balance sheet.
Price is the nervous system of the economy. The relationship between price and supply and demand is the core relationship of the economic system. Generally, prices are highly correlated with the trend of GDP. There is a certain correlation between CPI, stock prices, real estate prices, treasury bond yields, bank interest rates and GDP.
Economists often use the inflation rate to judge whether the economy is overheated or depressed, and the bond yield to predict economic recession. The modern central bank takes inflation rate as the main target of monetary policy. It regulates market interest rate through short-term interest rate, thus affecting investment and consumption, and guiding the achievement of inflation, employment and income targets (Taylor rule).
When analyzing the Chinese economy, structural issues need to be considered. The balance sheet (enterprises, residents, and the government) is an effective tool for analyzing the economic structure, and has been widely introduced into macroeconomic analysis in recent decades. What is the relationship between balance sheet and macro-economy? It can be understood from three perspectives:
First, scale. When the balance sheet expands, macroeconomic growth; When the balance sheet declines, the macro-economy declines. For example, residents borrowed money from banks to buy houses, both banks and residents' balance sheets expanded, private investment increased, bank credit increased, and macroeconomic growth.
The second is structure. If asset prices rise, the asset liability ratio will decline on the premise that liabilities and interest rates remain unchanged, which means that residents' balance sheets will improve, and their borrowing and investment capacity and consumption expectations will be stronger. If asset prices fall, the asset liability ratio will rise on the premise that liabilities and interest rates remain unchanged, which means that residents' balance sheets will deteriorate, and their borrowing, investment, consumption capacity and expectations will be weakened.
The third is the multiplier. There is a multiplier effect between bank balance sheet and liquidity. Bank's expansion of assets promotes the expansion of liabilities, while liabilities can promote the expansion of assets. The loan deposit loan relationship promotes the multiplier effect, which in turn generates a large amount of liquidity. If the balance sheet of the bank declines, it means that the liquidity in the market will decline by multiple times.
Increase interest rate cuts to boost market prices
We can use the analytical method of combining the price main line with the balance sheet (scale, structure, multiplier) to understand the macro-economy.
First, the contraction (recession) of the balance sheet will inevitably lead to the decline of prices and nominal GDP. In the past development process, China's nominal GDP has been higher than the real GDP for a long time, but now the reverse is true. Why? The reduction of loans by enterprises and residents, or even the use of savings to repay, reflects the decline in investment demand, and prices will fall when supply remains unchanged. Since 2021, the growth rate of real estate loans has declined rapidly, and fell to a negative figure last year. Accordingly, house prices have also declined.
Secondly, the institutional imbalance of the balance sheet will aggravate the price decline, and once the price and debt strengthen each other, it may form a downward spiral. The excessive expansion of the balance sheet means debt overdraft, that is, advance assets in advance, consume investment and consumption capacity, and prices naturally fall. If the three major sectors all borrow excessively, the market price decline will be comprehensive and sustained, with prices of consumer goods, bulk commodities, real estate, financial assets, as well as wages and interest rates falling.
Falling market prices may further deteriorate the balance sheet. Falling prices will drive down the growth rate of nominal GDP, and the growth rate of residents' current wage income, operating income and asset income will decline. The debt is rigid. If the policy interest rate remains unchanged, the price decline will cause the risk of residents' debt repayment to continue to increase. Therefore, if an economy is in debt and nominal GDP declines or growth rate continues to decline, even if real GDP maintains growth, debt risk is also accumulating.
Thirdly, the decline of multiplier effect of bank balance sheets has brought fatal damage to liquidity. The relationship between the multiplier effect of bank balance sheets and liquidity is the core of Ben Bernanke's financial accelerator theory, and also the lifeline to understand the modern macro-economy. If bank balance sheets shrink, market liquidity will decline at an accelerated rate. After the emergence of Lehman Brothers, the financial market experienced a liquidity crisis, and overnight lending rates soared. Almost all American banks were faced with the risk of being run. Subsequently, the Federal Reserve promptly replenished liquidity for the market.
Although China's financial market is not as developed as that of the United States, we should also attach great importance to the liquidity risk caused by the contraction of bank balance sheets. This is because: 1) The ability of developers, urban investment and residential sectors to expand their balance sheets has declined due to excessive borrowing, which has restricted banks from continuing to expand their balance sheets, while early repayment of loans will directly eliminate banks' high-quality assets and further reduce their ability to expand their balance sheets; 2) As the bank's main mortgage asset (accounting for 40%), the real estate value has shrunk, which means that the bank's ability to expand loans is constrained, and the credit growth rate has declined, leading to a decline in liquidity; 3) The proportion of defensive savings and fixed deposits increased, while the non-performing loan ratio of developers increased, and the ability to deliver risky assets declined. At the same time, it brought pressure to the bank's liability side and asset side, and the monetary transmission effect decreased, thus inhibiting liquidity growth.
To sum up, price is the nervous system of economy, balance sheet is the hematopoietic system, and liquidity is the blood of credit system. The modern financial crisis is a liquidity crisis on the surface, but a balance sheet crisis in essence. The scale contraction of the balance sheet, the structural deterioration and the reverse multiplier effect have an impact on the market price, thus triggering a long-term recession or even depression of nominal GDP.
At present, China's economic policies should serve the improvement of the balance sheet, with the primary goal of reviving market prices. The market price is determined by the total amount of money and the flow rate of money. The conventional monetary policy to expand the total amount of money is to cut interest rates. If the interest rate falls to zero, it is still invalid, and the central bank usually adopts unconventional quantitative easing policies. From the experience of the Great Recession in Japan and the financial crisis in the United States, the monetary aggregate policy has a particularly obvious effect on asset prices, and relatively weak effect on real prices (CPI as an indicator). At present, China's real interest rate is on the high side, so the central bank should increase its efforts to cut interest rates and increase the total investment.
Only by improving the balance sheet can we increase the flow of money and fundamentally boost prices. New Keynesians believe that fiscal policy should support residents' income more to boost consumption. The government distributes financial funds to residents by means of transfer payment. Due to the high marginal propensity of consumption of residents, it is easy to become purchasing power, and capital flows quickly in the market, thus increasing the flow rate of money, and ultimately improving residents' consumption welfare, nominal GDP and market expectations.
