The central government should allow some redundant ill-performing enterprises and projects to go bankrupt, and stop further stimulation and support to let the market allocate resources and help the real economy, says an article in 21st Century Business Herald. Excerpts:

Premier Li Keqiang talked with local entrepreneurs about the relationship between the real economy and financial services during his recent trip to the Inner Mongolia autonomous region. He comforted entrepreneurs who complained of the difficulty of raising funds, and said the government will continue a prudent and stable monetary policy, make better use of the stock fund, optimize financial structure and promote reforms in the financial sector.

The real economy’s financing difficulties are caused by multiple reasons, such as an overdue marketization of interest rates, monetary policy, adjustment of financing means, and risks posed by property bubbles and a slowing economy.

Statistics show that neither overall credit loans, nor the scale of social financing have shrunk for some time in China. The real economy’s difficulties in raising funds therefore seem difficult to understand.

An important reason is that, in the past few years, large sums of money flew, often through shadow banking, to the property market, which gave a high return, and local government financing agencies, which are guaranteed by government credit.

A warning phenomenon is that the government is actively promoting the construction of high-speed railways and government-subsidized houses nationwide. Money goes to these projects through policy banks or loans for the fixed targets. Moreover, the central government just allowed 10 local governments to issue government bonds in a pilot reform.

These new projects sponsored by the government will probably further inflate the real economy’s financing costs. In a slowing economy, banks are also more likely to lend to borrowers guaranteed by the government, rather than riskier real economy enterprises.

However, some government projects and enterprises owned or supported by the government are debt-ridden and would have become bankrupt if not for government assistance.

Many local governments and enterprises are waiting for the central government to loosen its monetary policy, thinking this will allow these dying projects and enterprises to continue, and, at the same time, lower the difficulty for real economy enterprises in obtaining funds.

However, the market will instead enter another vicious cycle of investment bubble and bust.