On July 20, Chinese banks kept their Loan Prime Rate (LPR), or benchmark lending rate for corporate and mortgage loans unchanged. The benchmark one-year, corporate lending rate has not changed since January – reflecting policymakers’ stated preference for infrastructure spending over a blanket monetary stimulus to fuel economic growth. 

In June, President Xi Jinping called for an “all-out” effort to boost infrastructure construction, while Premier Li Keqiang introduced infrastructure support measures in several State Council meetings. 

This coordinated effort ensures that increased infrastructure spending is the priority.

Beijing remains opposed to excessively loose monetary policy. Premier Li recently told global business leaders that “China won’t issue an excessive amount of money or overdraw the future for an overly high growth target.” “Slightly higher or lower growth rates are both acceptable as long as we keep employment sufficient, household income growing and prices stable,” he added. His remarks imply that Beijing has conceded that this year’s 5.5% growth target is unrealistic.

The central government has announced a range of infrastructure stimulus measures in the past few months, but their overall impact on monetary conditions and growth will depend on how fiscal spending is financed.

In June the State Council ordered policy banks to increase their lending quota for infrastructure projects by Rmb800bn ($118bn). The additional policy loans are expected to be primarily funded through bond issues whose interest payments the Ministry of Finance will subsidise for two years, making them a more attractive funding tool for projects with a low anticipated return on investment.

In July, the State Council additionally authorised policy banks to raise up to Rmb300bn via new financial instruments to “replenish the capital requirement of major infrastructure projects”. Enodo understands that the new instruments are similar to the 'special bonds for construction' issued in 2015, which invested directly into major infrastructure projects instead of lending to them, thus providing an equity cushion that made the projects more attractive to commercial banks. These policy bank bonds will also benefit from the Ministry of Finance subsidy. 

If we assume that the equity cushion is equal to 20-25% of the overall investment in the projects to which it is applied, the credit they could leverage from capital markets, the banks or private investment would be around Rmb1.2trn. 

The higher quota for lending from policy banks plus the new instruments to raise funds for initial equity in infrastructure projects potentially adds up to Rmb2trn of investment or about 1.8% of GDP.

Special purpose bonds (SPBs) issued by local governments are another key source of infrastructure funds. Out of this year’s total special bond quota of Rmb3.65trn, the lion’s share or Rmb3.45trn is earmarked for infrastructure construction. The State Council told local governments to complete their full-year special bond issuance by the end of June, and deploy the funds by August. 

But, although 95% of the bonds have been issued, many of the funds raised have not yet been deployed, due to a lack of infrastructure projects that can generate enough returns to service their debt.

Beijing is also likely to front-load again some of the SPB issuance it will plan for 2023 in the second half of this year. It is likely to front-load more than the Rmb1.46 it frontloaded last year.

Another option the central government has not yet used but could be deployed as well is the special treasury bonds which it has used in the past for one-off events like the initial Covid response. These bonds are guaranteed by the state, which has a much lower debt level than local authorities, making them more attractive to foreign and non-bank investors. However, the recent budget proposal submitted to the legislature on June 21 did not mention the special treasury bond. Procedurally, the next window for such a measure does not open until August at the earliest.

Traditionally, the main buyers of policy bank and local government bonds in China are the banks. If this remains the case this time around, China's fiscal expansion will be accompanied by an increase in broad money. If foreigners buy the bonds, RMB flows into the domestic economy. But if domestic non-banks buy the bonds then there is no boost to the money supply which just ends up flowing from one sector of the economy to another. 

If no new money is created the fiscal boost will fizzle out quickly, leaving China mired in stagnation. If Beijing continues to create new money to throw at unproductive investment by state diktat as it has done so far, it is more likely to perpetuate its stagflation but certainly not engineer a sustainable boost to growth. 

Premier Li is correct in wishing not to "overdraw the future", but every time the going gets tough, Beijing ends up doing just that.