What China Can Learn from Germany

Nicholas Borst (Federal Reserve Bank of San Francisco)



The Survey and Statistics Department at the People’s Bank of China (PBoC) has once again proven itself to be a source of interesting new policy ideas to deal with China’s economic problems. The report, Factors Behind Germany’s Economic Resurgence and Lessons for China (CN), outlines several policy prescriptions used by Germany that have relevance for China.

How to Deal with a Trade Surplus:

To adapt to a changing economic system, Germany began to implement currency reform in the 1960s. Starting in 1973, Germany let its currency float. For the next several decades the currency floated upwards against the dollar. The rate of appreciation was carefully controlled and nimble monetary policy defended the economy against the impacts of external shocks.

The report contrasts Germany’s success in currency reform with Japan.  Faced with outside pressure, Japan gave into a large and significant increase in the value of the yen.  To prevent damage to export industries, Japan implemented an expansionary monetary policy and low interest rates. These policies led to the credit bubble of the 1980s and the lost decade of the 1990s.

According to the report, the lessons for China are to maintain an independent monetary policy based on national economic conditions while gradually implementing currency reforms. The capital account should carefully be opened so that a capital account deficit can eventually cancel out a current account surplus.

How to Stabilize Home Prices:

The report identifies several policies, adapted from the German example, which China can use to stabilize its real estate sector.

1. Increase investment in social housing. Governments at all levels should invest in and support low income housing.

2. Speed up the implementation of the property tax. This should gradually replace the buying restrictions that are currently being used to contain the property bubble.

3. Support a differentiated housing finance policy for rigid demand (structural inelastic demand) and housing improvement demand. Rigid demand should be supported with a lower down payment requirement, 30 percent or below. Housing improvement demand should require down payments in the range of 30 to 40 percent. Housing purchased for investment should receive no financing support.

4. Improve the legal system’s role in real estate and issue fines to sellers and renters whose prices greatly deviate from normal levels.

How to Promote Industrial Restructuring:

Finally, acknowledging the need to rebalance the Chinese economy, the report points several German policies used to promote industrial restructuring.

1. Promote intellectual property protection as a way to encourage firms to innovate and move into new markets.

2. Increase public investment, reduce corporate taxation, implement credit preferences for target industries, and promote an increase corporate research and development.

3. Increase vocational training, reform university majors to align with market needs, and provide assistance for corporate training.

So what do reports like this tell us? There’s a serious effort underway to bolster China’s rebalancing toolkit and policymakers are looking internationally for best practices.It also shows that gradualist approach to reform is still the dominate mode of thinking.

Perhaps most importantly, it shows high levels of skepticism, even in highly technocratic bureaucracies like the PBoC, towards international pressure to rapidly push through large-scale reforms.

Japan is put forward as a warning of what can go wrong when a country is pressured into making large changes in economic policy. The truth of how much of Japan's economic woes are attributable these factors is highly debatable, but what's clear is that the Japanese example continues to shape the thinking of Chinese policymakers.

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