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Chinese Economy and the 2008 Global Financial Crisis

Financial crisis can be defined as a situation where some financial assets suddenly lose a greater part of their nominal value (Allen & Gale, 2007). The occurrence of a financial crisis always results in loss of paper wealth but must not constitute to changes in the real economy. The 2008 global financial crisis is regarded by most economists as the worst ever financial crisis since the great depression happened in 1930s (Charles &Robert, 2005). The crisis threatened the collapse of a number of large financial institutions of which the national governments came to the rescue of those banks but the stock markets still dropped globally. In a number of places, the housing markets suffered heavily leading to foreclosures, evictions and prolonged unemployment. The crisis led to failure of key business institutions, fall in wealth of consumers which approximated in trillions of U.S dollars as well as downturn in economic activity causing 2008-2012 global recessions and paving way for European sovereign-debt crisis (Charles &Robert, 2005). The global economic crisis dawned in China as large scale lay-offs in construction preceding the collapse of exports triggering massive additional unemployment (Allen & Gale, 2007). Its strong fiscal situation, relatively strong and low leverage banks left an ample room for aggressive monetary and fiscal stimulus to counter the recession. This article presents a discussion of Chinese economic situation and response during and after the 2008 global financial crisis.

The Economy in China

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In 2008, the international financial crisis happened to spread from developed nations to emerging economies then continued to spill over from the financial sector to the real economy. Two commonly shared assumptions concerning China changed. These were that China could be able to decouple from recession in the West and that it was possible to be immune from experiencing turmoil by its insulated banking sector and capital account utterly relying on deposits and not protected from dangerous western financial instruments (Deitrick, 2009).

Financial Situation in China during the Crisis

Fllowing the outbreak of the financial crisis, exports from China fell in growth rate to 2.2% on November 2008 from high log 20% in October (Deitrick, 2009). Generally, the exports managed to fall by almost 17% in 2009 before recovery to a considerable positive growth in 2010 before developed countries started growing again (Deitrick, 2009). The Chinese Banks, for the sake of profitability, witnessed dramatic pull out of most of their Western partners since they had to sell minority stakes for the purpose of retrieving capital. The international financial crisis definitely busted the country’s fledging sovereign wealth fund. Having incurred huge losses by attaching itself to Western companies, the Chinese public was instrumental towards development of Chinese Investment Corporation strategy. In conjunction, the current attitude of cash is the king by CIC made western analysts not to consider CIC not focused on Chinese sovereign wealth fund.

China’s Economic Reactions Facing the Crisis

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Capital control

Capital control provided a way out for China to be able to keep up using an undervalued currency and provide cheap capital that can be used in fueling economic growth such as capital account policies designed specifically to influence trade protectionism. Since the entry of WTO in 2001, China’s ability to influence foreign banks and capital flows internationally have been decreased. Despite loosening its strength to control financial flow internationally, the regime is still quite restrictive. Notwithstanding numerous ways of escaping these kinds of control, they continue to possess enough effectiveness to counter international financial flows. Most economists argue that such controls have efficiency costs; they are a limitation to exposure to financial instability internationally.

Financing for development in China came from domestic sources. For instance, the total assets held by the banks in mainland China but under foreign funding were worth around $193 billion in March 2008 (Deitrick, 2009). This represented only 2.4% of the total assets held by the banks in China. Therefore, the foreign-funded banks are too small to be inffluential in the financial system. Additionally, China has only managed to initiate slow efforts to liberalize domestic financial sector hence the country has lacked a great deal of financial innovations such as Collateralized Debt Obligations and Mortgage-backed Securities (Deitrick, 21).

Strong fiscal position

The main factor of high growth rate in China was the country’s ability to adopt a strong stimulus package. This became the most feasible choice due to the country’s strong position financially. Looking back during 1997-1998 in Asia, the countries had unstable financial sectors and low level of international reserves. This was a big limitation to their ability to be able to adopt stimulus policies in the face of economic recessions. The period gave the countries enough lessons to substantially strengthen their financial systems and further build high level of international reserves. Sound fiscal position gave many Asian economies substantial fiscal and monetary space to adopt stimulus packages to help in offsetting decline in country’s exports. China comes out as the prime example this kind of phenomenon.

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Four trillion stimulus package

The Chinese government took radical countermeasures towards mitigating the impact of the global financial crisis. Beginning in the 1/3 quarter of 2008, China implemented a mix of active fiscal policy as well as loose monetary policy by introduction of RMB 4 trillion, an equivalent of $580 billion stimulus package to bail out 2009 and 2010 (Glenn, 2011). These efforts in support of the economy at the time of the financial crisis brought up a surge in bank lending. In 2009, bank lending in China totaled to RMB 9.6 trillion, reaching a half of the GDP that year (Glenn, 2011) Substantial funds from bank loans were funneled into property markets and nation’s stock rather than exact economic activities which birthed partial recovery of country’s stock market from low China reached in 2009. In 2010, the central government deficit was just 1.7% of GDP compared with 8.9% in the U.S. Such expansive polices impacted hugely on the extent of drop in the growth rate (Deitrick, 44).

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