The Chinese economy: stimulus without rebalancing

China’s growth model has continued to rely on expanding industrial capacity and exporting to the world, rather than on domestic consumption. This has led to a significant increase in China’s global share of manufactured exports and has raised concerns about overcapacity (Figure 1; Xu, 2025). The imbalance arises because China’s expanding production capacity is outpacing domestic demand. Overcapacity would be best addressed by boosting domestic demand, particularly through stronger household consumption.

The United States and European Union have for years urged China to shift its economic focus away from manufacturing and exports, and towards greater reliance on domestic consumption, in order to address its structural saving-investment imbalance¹. However, rebalancing towards a more consumption-driven growth model in China has yet to take hold in a significant way. On the contrary, the contribution of external demand to China’s economic growth has remained strong, especially since the second half of 2024 (Figure 2).

Since returning to office at the start of 2025, US President Donald Trump has adopted an especially forceful approach to compel China to rebalance its economy. US tariffs on Chinese imports were raised to as high as 145 percent, before being scaled back in May to 30 percent (including a 10 percent baseline and a 20 percent fentanyl-related surcharge)², on top of the already high tariffs piled up by the first Trump administration and the Biden administration.

Such steep tariffs can be expected to suppress Chinese exports. Shipments to the US declined sharply after April 2025, with a double-digit year-on-year contraction³. However, robust demand from other markets (some of which may be rerouting their exports towards the US) has more than offset the loss. In fact, Chinese exports grew by 6.1 percent year-on-year in the first seven months of 2025 (Figure 3), outpacing GDP growth, making external demand a major contribution to China’s growth.

Chinese industrial production has grown so much that not even very strong exports have been able to absorb it all, resulting in overcapacity. Meanwhile, capacity utilisation, which measures how efficiently resources are used to produce, has declined, pointing to a lack of demand for all the industrial capacity China has accumulated (Figure 4). Moreover, producer and export prices have dropped in most months since the start of 2025 (Figure 5).

China’s stimulus and its impact on consumption

China’s cyclical response to slowing growth, coupled with pressure from the Trump administration, has included fiscal and monetary stimulus. However, there has been limited action on the exchange rate, specifically in relation to renmimbi appreciation. This is partly because international financial markets have been seeking higher returns in the West, particularly the US⁴. It also reflects China’s concerns about repeating Japan’s negative experience with the sudden strong yen appreciation forced by the US in the 1980s under the so-called Plaza Accord, which contributed to a prolonged period of economic slowdown (García-Herrero and Xu, 2025; Liu, 2024). 

Laxer fiscal policies have taken hold with a clear focus on infrastructure

In fact, since its zero-COVID policies ended, China has maintained a relatively cautious fiscal stance, largely because of significant fiscal deterioration at local-government level. However, in November 2024, this stance shifted notably towards a more proactive approach after an announcement in September by the People’s Bank of China governor⁵, later confirmed by the State Council. A 6 trillion renminbi local-government bond-swap programme was announced⁶ to deal with local government off-balance-sheet hidden debt. In other words, China’s fiscal effort was refocused on ensuring financial stability, by helping local governments to repay their debts, rather than stimulating consumption. This was quite different from the market expectation of a consumption-led stimulus⁷.

In March 2025, perhaps concerned by the looming risks arising from President Trump’s threats, the Chinese leadership announced an increase in the general budget deficit to 4 percent of GDP, with the issuance of 1.3 trillion renminbi of ultra-long special treasury bonds, on top of 4.4 trillion renminbi of local special-purpose bonds (National Development and Reform Commission, 2025)⁸. The special bonds have been issued to finance the government fund, which is earmarked to finance infrastructure⁹. The government-fund deficit has already widened to more than 3 percent of GDP, marking the second largest shortfall on record since the COVID-19 shock in 2020 (Figure 6). Figure 7 shows how special bond issuance by local governments has climbed steadily since mid 2024.

A breakdown of issued local government special bonds by purpose shows that most went into municipal construction, industrial park infrastructure, transportation projects and public housing (Figure 8). In addition, China will be under increased pressure to issue more infrastructure bonds beyond typical local government bonds to pay for a huge hydropower project in Tibet costing about $170 billion¹⁰.

Another important question is to what degree debt swaps and infrastructure projects have resulted in a more supportive fiscal stance in China. We estimate the impact of China’s fiscal policy on GDP growth (ie the fiscal stance) and conclude that the fiscal impulse has turned positive, from a highly negative starting point in mid-2023 (Figure 9). In other words, fiscal policy has indeed been supportive of growth in 2025. It’s just that the focus is still on infrastructure projects.

Beyond the rise in infrastructure-related fiscal spending, China’s general budget deficit – used to finance routine expenditures including education, healthcare and public-sector wages – has remained largely stable, hovering around 4.85 percent of GDP in the first quarter of 2025, similar to the fourth quarter of 2023 (Figure 10). While such spending could support consumption indirectly by easing pressure on household disposable income, its growth has been only moderate and is unlikely to generate a significant demand boost.

Special targeted measures to boost consumption have largely focused on a subsidised consumer goods trade-in programme, which has been scaled up aggressively since the onset of the COVID-19 pandemic¹¹. The government accelerated the trade-in programme in 2024, allocating 150 billion renminbi ($21 billion) through the issuance of ultra-long special treasury bonds¹². In 2025, this amount was further increased to 300 billion renminbi (approximately $42 billion)¹³. However, despite doubling year-over-year, this figure remains small compared to infrastructure-driven spending. It is unlikely to address the fundamental cause of weak consumption: slowing income growth.

Monetary policy as a complement to fiscal expansion

Monetary policy was the first component of the stimulus previewed by the People’s Bank of China governor in September 2024¹⁴. So far, this has led to a 50-basis-point cut in the reserve requirement ratio¹⁵, a 20-basis-point reduction in the seven-day reverse repo rate (from 1.7 percent to 1.5 percent) and a 30-basis-point cut in the one-year medium-term lending facility rate¹⁶. However, most of the liquidity injected since then has been used to finance the surge in local-government bond issuance, rather than to significantly lower overall funding costs.

As Figure 11 shows, government bonds issued mainly by local governments were a major contributor to the rise in total social financing during the first four months of 2025. In other words, the laxer monetary conditions have mainly been used by local governments to fund boosts in infrastructure spending through the issuance of bonds with lower funding costs. This can be seen from the rapid growth in credit to the public sector, while credit to the private sector (corporates and households) has declined (Figure 12). Moreover, the risk that the public sector crowds out the private sector could become a reality¹⁷.

 All in all, the overall flow of funds from monetary expansion has favoured government bond purchases, while actual loan growth has been more muted. The overall monetary stance remains tight, as reflected in the stubbornly high real interest rates both for households (mortgages) and corporates (corporate loans) (Figure 13).

No near-term global rebalancing

Faced with growth challenges compounded by domestic issues and pressure from the Trump administration, China has responded with largely traditional expansionary measures, with a particular focus on fiscal stimulus. This fiscal stance has shifted from tight to supportive during 2025. However, contrary to expectations that measures would be taken to foster consumption, the fiscal expansion has prioritised infrastructure investment. Meanwhile, a more relaxed monetary policy has primarily facilitated financing for government spending, rather than boosting household or corporate credit.

This raises the question of why China is hesitant about rebalancing its growth model towards greater consumption, especially given the potential of such a strategy to alleviate trade tensions with the US and EU. Khundrakpam and Pattanaik (2010), for example, argued that consumption-driven stimulus risks higher inflation, but this concern is arguably misplaced for China currently, given its low inflation environment. Another argument is that prioritising consumption may conflict with China’s focus on technological upgrading and innovation¹⁸. However, stronger domestic demand would in fact benefit the Chinese economy and create more favorable conditions for technological development.

All in all, the Chinese government seems convinced that the current growth model, which moves away from the debt-driven reliance on the real-estate sector and focuses on increasing China’s global market share of industrial production and exports, remains the right one. In other words, the need for rebalancing towards consumption does not seem to be a real priority. The ongoing stimulus is directed mainly towards infrastructure, meaning that no significant near-term surge should be expected in global demand resulting from increased Chinese consumption. In other words, the global rebalancing the US and the EU are expecting from China will not happen soon.

References

García-Herrero, A. and J. Xu (2025) ‘Will China’s economy follow the same path as Japan’s?’ Policy Brief 09/2025, Bruegel, available at https://www.bruegel.org/policy-brief/will-chinas-economy-follow-same-path-japans

Khundrakpam, J.K. and S. Pattanaik (2010) ‘Fiscal Stimulus and Potential Inflationary Risks: An Empirical Assessment of Fiscal Deficit and Inflation Relationship in India’, Journal of Economic Integration 25(4): 703–721, available at https://www.jstor.org/stable/23000955

Liu, Y. (2024) ‘Assessing whether China will experience the lost decade of Japan’, China Economic Journal 17(3): 385–417, available at https://doi.org/10.1080/17538963.2024.2327775 

National Development and Reform Commission (2025) Report on the implementation of the 2024 plan for national economic and social development and on the 2025 draft plan for national economic and social development, Third Session of the 14th National People’s Congress of the People’s Republic of China, available at https://english.www.gov.cn/news/202503/13/content_WS67d2d566c6d0868f4e8f0c85.html

Xu, J. (2025) ‘How is innovation competition exacerbating global overcapacity?’ Analysis, August 18, 2025, Bruegel, available at: https://www.bruegel.org/analysis/how-innovation-competition-exacerbating-global-overcapacity

This is an output of China Horizons, Bruegel's contribution in the project Dealing with a resurgent China (DWARC). This project has received funding from the European Union’s HORIZON Research and Innovation Actions under grant agreement No. 101061700.