Despite turmoil, Eswar Prasad sees China growth at 6.5-7%

Even as economists fret over whether China is in for a deep recessionary phase, a leading academic believes fears of a slowdown may be overdone and that China may still grow at 6.5-7 percent this year.In an interview with CNBC-TV18's Sonia Shenoy and Anuj Singhal, Cornell University Senior Professor Eswar Prasad said the world's second largest economy still had enough fiscal and monetary policy space to boost its economy."However, they have to choose the right mix of policies carefully. The old playbook of [re-creating an] investment book will hurt," he said. "Right now, there is an opportunity for them to use fiscal policy more adroitly. The budget deficit is below 3 percent of GDP, public debt is low. The government should spend more on social safety net, healthcare, education, etc. These will spur consumption," he said.The Chinese government is committed to economic and financial reforms, according to Prof Prasad."My sense is: the government wants to make sure any steps it takes to boost the economy in the short run don't roll back the reforms process that have been already initiated [through the years.]"Below is the transcript of the interview on CNBC-TV18.Sonia: Well the Chinese August purchase managers’ index (PMI) scared the world as to what the growth pace of China could be and how much it could slow down to. What is your own estimate of the country’s gross domestic product (GDP) growth this year and how much of a slowdown we could be staring at?A: There are fairly serious an legitimate concerns about whether China’s economy is losing growth momentum and I suspect that is the case. However, there tends to be a disconnect in China between the very high frequency monthly data and the slightly less high-frequency data, the quarterly and the annual levels. But, many indicators are pointing downward but my sense is that this economy can still generate growth of somewhere in the range of 6.5 to 7 percent this year mostly because the government has enough policy space both in terms of monetary and fiscal policy to be able to do that. The difficulty is that if they go back to the old play book of trying to use an investment spurt, in order to boost growth, that is going to hurt China in the long-run, even though it could boost short-term growth. So, I worry a little more about the longer term than this year or next.Anuj: So far the Chinese authorities have only announced monetary steps and the feedback we are getting is that some fiscal steps are also needed. Are you concerned about the government’s policy response so far?A: Getting the right mix of policies is very important, but in China, many things are topsy-turvy. When we talk about monetary policy, very often monetary policy turns into credit policy and the free availability of credit through the banking system is what has been fuelling the investment boom. Fiscal policy through direct public investment is not what has been mainly responsible for the huge rise in investment. And in fact, right now, I think there is an opportunity for the Chinese government to use fiscal policy more adroitly because the explicit budget deficit is well below three percent of GDP, the explicit amount of public debt is still quite low. So, what the Chinese government could do is actually spend more on the social safety net on healthcare and education, all of which might actually spur consumption growth by reducing precautionary saving. So, by using fiscal policy to get money into the hands of households through a more vibrant social safety net that also reduces precautionary savings. I think they could both support short-term growth and help in the longer-term growth rebalancing towards consumption.Sonia: You said you expect 6.5 percent growth in China this year, but what about next year. Would you say that the market is getting overly pessimistic on China?A: I didn't quite say 6.5, I think somewhere in the range of 6.5 to 7 percent is easily achievable by the economy this year and next. The reality again is that where the government wants the economy to end up is where it will end up because they do have a lot of policy space but my sense being in Beijing is that the government is really very committed to economic and financial market reforms. So, they want to make sure that any steps that they take to support the economy in the short run don't roll back the reforms they have already put in place. So, there is this real tension between trying to support growth and staying the course on reforms.Anuj: The Bank of Japan Governor said last week that there is no reason to be too pessimistic about China. Would you agree with that assessment?A: There has been a very big market overreaction and to some extent the Chinese government is responsible for this because what they have been trying to do in the last week or two especially with the move on the exchange rate is to move forward in terms of reforms but the problem is that they have not communicated their intentions very well.So, when they undertook the exchange rate move a few days ago what they did was they put in place 2 percent devaluation and they moved to a new market determined exchange rate, not fully floating but giving more free play to market forces. But because they didn't communicate the reform intentions very clearly at that time what happened is that the markets interpreted it as a sign of desperation by a government that was very concerned about slowing growth, swooning stock market and was trying to take whatever measures it could.My sense is that they are again committed to this market oriented reforms but unless they get the communication and the implementation working much better than they have so far it is going to lead to a lot more market volatility and a lot of overreaction in financial markets around the world.