Creating Financial Cycles in China and Interaction with Business Cycles on the Chinese Economy

ABSTRACT

This study creates a Chinese financial cycle index to examine the lead-and-lag relations between business and financial cycles. We examine the macroeconomic performance when these cycles are in boom, bust, and other combinations. We have four interesting results. First, financial cycles occur less frequently than business cycles. Second, the upturn phase of a financial cycle is significantly longer than the downturn phase. Third, gross domestic product growth rates are at their lowest when the two cycles are in troughs and the highest when they reach their peaks. We find similar results for employment, inflation, and consumption rates. Fourth, financial cycles lead business cycles but not vice versa. Hence, policymakers should consider the financial system before bailing out the real economy, which alone is insufficient for the recovery of the macro economy.

KEY WORDS:

• business cycles
• credit scale
• equity price index
• financial cycles
• house price index

JEL classification:

• E44
• G21
• P34

Notes

1. Please refer to the website: http://www.chinanews.com/fortune/2011/02-15/2844193.shtml.

2. Drehmann, Borio, and Tsatsaronis (2012) consider both credit and credit-to-GDP ratio, house prices, and equity prices.

3. For finance leads economic growth, see (Beck 2014; King and Levine 1993a, 1993b; Levine, Loayza, and Beck 2000; Tsouma 2009).

4. For economic growth leads finance, see Vazakidis and Adamopoulos (2010), Bader and Qarn (2008), Ghartey (2015).

5. For example, the NBER identified the business cycle chronology in the US by dating peaks and troughs. Burns and Mitchell (1946) defined a cycle to “consist[s] of expansions occurring at about the same time in many economic activities, followed by similar general recessions, contractions, and revivals which merge into the expansion phase of the next cycle; this sequence of changes is recurrent but not periodic; in duration, business cycles vary from more than 1 year to 10 or 12 years.” Hamilton (1989) used the Markov switching model to extract the recession and expansions, which is equivalent to dating the peaks and troughs.

6.The NBER built a set of cyclical standard and procedure for business cycle around 1930 that included establishing a comprehensive leading index, a comprehensive consistent index, and a comprehensive backward index that they use to predict and identify the status transformation of the business cycle. At the same time, they announce the turning point dates of business cycle in the US regularly.

7. Please refer to the website: https://www.businesscycle.com/ecri-business-cycles/international-business-cycle-dates-chronologies. In China, it is the National Bureau of Statistics that publishes the Chinese business cycle index and the enterprise prosperity index regularly.

8. See Bosch and Ruch (2012), Banerji, Layton, and Achuthan (2012) and Siliverstovs (2011) for more details.

9. Detailed social aggregating financing can be found on the website: http://www.pbc.gov.cn/diaochatongjisi/116219/index.html.

10. See the website: http://www.cemac.org.cn/gywm.html.

11. Website: http://www.pbc.gov.cn/zhengcehuobisi/125207/125227/125960/126049/126086/2843723/index.html.

12. When we compute a cycle’s average length, we omit the phase that is not completed. For example, for the first downturn phase of financial cycle 1995:Q4–1997:Q1, we cannot know the exact time it began. And the same for the last upturn phase of financial cycle 2011:Q1–2016:Q1 because it is unfinished. If our calculation includes these two phases, we may get biased results. Thus, we delete these two phases when we compute the cycle’s average length. In the calculation of other similar values, such as the amplitude, a similar treatment is carried out.

13. Consumption represents the growth rates of total retail sales of consumer goods.

Additional information

Funding

This work was supported by the early warning of default risk for countries around the belt and the road [531107050851].