China's Consumption Insufficiency and Its Causes - Macroeconomics from a Chinese Perspective

China's Insufficient Consumption and Its Causes – Pan Deng's Notes on Macroeconomics

The Abnormality of China's Enterprise Savings and Resident Savings

Based on the analysis of the previous Ramsey model, the substitution between corporate savings and household savings - both are household wealth. In other words, if firms are owned by residents, then residents' consumption and saving decisions are not affected by the distribution of income between firms and households. Regardless of whether the income flows to the residential sector or the corporate sector, it will eventually flow into the pockets of residents.

Therefore, enterprises are only "a curtain over the residential sector", and the analysis of corporate behavior must "pierce through the curtain of enterprises".

Determined by the previous consumption and savings, we can figure out the main logic

• Both consumer savings (resident savings) and corporate savings are part of the total savings of the whole society, and the total savings of the whole society determines the rate of return on social savings (return on investment)
• The rate of return on savings in the whole society is balanced with the intertemporal subjective preferences of consumers, so as to determine the total savings in the whole society
• The distribution between consumer savings (resident savings) and business savings does not affect the total savings of the whole society, nor does it affect consumer consumption
• There is a negative correlation between household savings and corporate savings

The premise of realizing the optimal consumption/savings investment (savings) ratio in the real world

• Business ownership goes to residents
• There is a competitive market for business ownership (capital market)

Reasons for Insufficient Consumption in China

• China has an unbalanced economic structure with insufficient consumption and excess savings—the lack of a market-oriented matching mechanism between corporate behavior and consumer time preference
• At the micro level: the investment behavior of enterprises lacks constraints from the consumer sector, so there is excessive investment behavior
  • The most important assessment index set by the State-owned Assets Supervision and Administration Commission for state-owned enterprises is the scale index
  • Private entrepreneurs may also have the desire to build a " great enterprise "
• Macro level: Inadequate flow of national income to the consumer sector, resulting in low consumption by consumers
  • Capital and labor divide the total output as two input factors
  • Returns on capital go to the owners of the capital, much of which does not go directly to the consumer sector
• China lacks a market regulation mechanism to regulate consumption and savings

Analysis using the Ramsey model

model assumptions

• The ownership of the business is owned by the state rather than residents
• The goal of a firm is to maximize its size. its capital stock in each period
• Enterprises will not transfer capital to residents in the second period

Resident optimization problem , directly write the Euler equation
$$1=d\frac{u^{\prime }(c_2)}{u^{\prime }(c_1)}(1+r_2)$$

Enterprise optimization problem , first-period optimization problem
$$\begin{array}{rl}\underset{k_0^d,l_1^d}{\max }& k_f=AF(k_f+k_0^d，l_1^d)-r_1{k}_0^d-w_1{l}_1^d+k_f\\ FOC:& \{\begin{array}{l}{k}_0^d:A{F}_1(k_f+k_0^d，l_1^d)=r_1\\ l_1^d:A{F}_2(k_f+k_0^d，l_1^d)=w_1\end{array}\end{array}$$
第二期手机机械
$$\begin{array}{rl}\underset{k_1^d,l_2^d}{\max }& k_{f2}=AF(k_f+k_1^d，l_2^d)-r_2{k}_1^d-w_2{l}_2^d+k_f\\ FOC:& \{\begin{array}{l}{k}_1^d:A{F}_1(k_f+k_1^d，l_2^d)=r_2\\ l_2^d:A{F}_2(k_f+k_1^d，l_2^d)=w_2\end{array}\end{array}$$
According to market clearing
$$\{\begin{array}{l}{l}_1^d=l_2^d=L\\ k_0^d=k_c\\ k_1^d=k_c\end{array}$$
Substitute into the first-order condition of enterprise optimization
$$\{\begin{array}{l}A{F}_1(k_0,L)=r_1\\ A{F}_1(k_1,L)=r_2\\ A{F}_2(k_0,L)=w_1\\ A{F}_2(k_1,L)=w_2\end{array}$$
At equilibrium, the resource constraint of the residential sector is
$$\{\begin{array}{l}{c}_1+k_c=(1+r_1)k_c+w_{1}L\\ c_2=(1+r_2)k_c+w_{2}L\end{array}$$
The resource constraint of the first period of the enterprise sector is
$$k_f=AF(k_0,L)-w_{1}L-r_1{k}_c+k_f$$
Add $k_f$, and the first-period budget constraint $k_f$代入得
$$\begin{gathered} c_1+k_1=AF(k_0,L)+k_0 \\ {c}_1=AF(k_0,L)+k_0-k_1 \end{gathered}$$
Substitute the expression of residents’ consumption in the second period as follows
$$\begin{array}{rl}{c}_2& =(1+r_2)k_c+w_{2}L\\ & =(1+r_2)(k_1-k_f)+w_{2}L\\ & =k_1+(r_2{k}_1+w_{2}L)-(1+r_2)\left[AF\right(k_0,L)-w_{1}L-r_1{k}_c+k_f]\\ & =k_1+AF(k_1,L)-(1+r_2)[w_{1}L+r_1{k}_c+r_2{k}_f-w_{1}L-r_1{k}_c+k_f]\\ & =k_1+AF(k_1,L)-(1+r_2)(1+r_1)k_f\end{array}$$
In fact, the derivation of the above formula does not need to be so complicated. The core idea is: After the second phase of production, the total available consumer goods are $k_1+AF(k_1,L)$ , and these consumer goods can only have two destinations, one is for consumption and the other is for the enterprise as capital stock; the capital stock of the enterprise will not be consumed, so its capital stock in the second period will be $ (1+r_2)( 1+r_1)k_{f0}$

Define the capital stock
$$\begin{gathered} k_f\triangleq \theta k_0 \\ {k}_c\triangleq (1-i)k_0 \end{gathered}$$

Substitute the return on capital expression into the above formula
$$c_2=k_1+AF(k_1,L)-(1+A{F}_1(k_1,L))(1+A{F}_1(k_0,L))\theta k_0$$

Euler's equation of residents can be reduced to
$$u^{\prime }(c_1)=u{\_}^{\prime }(c_2)(1+A{F}_1(k_1,L))$$

θ $i=When\; 0$ , this model is completely equivalent to the model in which residents own shares in enterprises. And when$i>0$ , the consumption of residents in the economy will be less than that of enterprises owned by residents, and the savings will be more than that of enterprises owned by residents, that is, ∂ c 1 ∂ θ < 0 ,
$$\frac{\partial c_1}{\partial \theta }<0,\frac{\partial c_2}{\partial \theta }<0,\frac{\partial k_1}{\partial \theta }>0,$$

In fact, it can be understood as follows: the consumption and savings of the household sector are regulated by the market, but the consumption (dividends) and savings (reinvestment) of the corporate sector are not regulated by the market, forming rigid savings. No matter how low the market interest rate is, the company will not pay dividends;

Numerical Simulation

When the ownership of enterprises is in the resident sector (called "private economic model")
$$\{\begin{array}{l}{u}^{\prime }(c_1)=u{\_}^{\prime }(c_2)[1+A{F}_1(k_1,L)]\\ c_1=AF(k_0,L)+k_0-k_1\\ c_2=AF(k_1,L)+k_1\end{array}$$

When some enterprises are not owned by the resident sector (called "state-owned economic model")
$$\{\begin{array}{l}{u}^{\prime }(c_1)=u{\_}^{\prime }(c_2)[1+A{F}_1(k_1,L)]\\ c_1=AF(k_0,L)+k_0-k_1\\ c_2=AF(k_1,L)+k_1-[1+A{F}_1(k_1,L)][1+A{F}_1(k_0,L)]\theta k_0\end{array}$$

Suppose the utility function of residents is CRRA type
$$U=\frac{c_1^{1-}}{1-p}+d\frac{c_2^{1-}}{1-p}$$
The generating function is the Cobb-Douglas production function
$$F(k,l)=k^{\alpha }{l}^{1-\alpha }$$ = A = 1 , α = 0.4 , δ = 0.98 , σ = 2 k_0=L=A=1,\alpha=0.4,\delta=0.98,\sigma=
2$k_0=L=A=1,a=0.4,d=0.98,p=2$

Fixed inequality function
$$\{\begin{array}{l}{c}_1=1.3\\ c_2=1.57\\ k_1=0.7\end{array}\Rightarrow saving=1-\frac{c_1}{A{q}^{\alpha }{l}^{1-a}}=-29.8$$
Because the model has only two periods, and the second period will consume all the output and capital stock, so the first period will consume part of the capital stock, so the saving rate is negative, and the problem of extending to more periods is will ease;

For the state-owned economic model (assuming $i=0.5$)
$$\{\begin{array}{l}{c}_1=0.95\\ c_2=1.10\\ k_1=1.05\end{array}\Rightarrow saving=1-\frac{c_1}{A{q}^{\alpha }{l}^{1-a}}=5.4$$
When more capital is owned by state-owned enterprises, the saving rate of the whole society does rise, while the consumption of residents falls$$correspondingly$$$$;$$

Say's Law and China's Insufficient Consumption

• Say's Law - Supply creates its own demand
  • Say's Law only works at the macroeconomic level
  • Say's Law Reflects Full Confidence in the Efficiency of Market Operations
  • The premise of Say's Law is the existence of a market mechanism that regulates consumption and savings
  • Say's Law rules out long-term excess saving and underconsumption
• China's economy does not conform to the description of Say's Law
  • China lacks a market mechanism to regulate consumption and savings (at least this mechanism is not fully functioning)
  • China will have excess savings and insufficient consumption for a long time

China's lack of consumption can't just hit state-owned enterprises

While it is true that the presence of state-owned enterprises pushes up total savings in the economy, it cannot be said that China's consumption deficit is all due to state-owned enterprises. The proportion of state-owned enterprises in my country's industrial sector has continued to decline in the past few decades. At the same time, the proportion of my country's residents' consumption in GDP has declined significantly;

According to the thinking of analyzing state-owned enterprises, the phenomenon of insufficient consumption can be attributed

• State-owned enterprises aim to be large-scale, and the business objectives of enterprises deviate from the preferences of residents
• The profits of foreign companies are owned by foreign residents, which deviates from the preferences of Chinese residents
• Private enterprises are unevenly distributed among residents, with many private enterprises still owned by business founders and a small number of residents owning large shares of private enterprises;

In addition, there is also a tendency within the Chinese resident sector to consume less and save more;

According to the previous section, there is a huge gap between the interest rate corresponding to the calculated high consumption growth rate and the interest rate in the real world (in 2000-2015, the average real growth rate of per capita consumption in China was 7.7%; substitute these figures into the above formula , the real interest rate $r_2=17.4\%$ , an order of magnitude higher than the real rate we observe in reality ;),

The household sector itself is also an important cause of excess saving and insufficient consumption. The other main reason for this phenomenon may be the precautionary saving motive - saving for future uncertainties or saving for future large expenditures (Savings for house purchase and children's education)

Reform of state-owned enterprises to promote consumption transformation

The core problem of SOEs: the absence of a competitive market for their ownership

The Possibility and Feasibility of Reforming State-owned Enterprises

plan	feasibility
Mandatory dividends	The biggest difficulty encountered by state-owned enterprises in mandatory dividend distribution is that the government does not know what ratio each company should pay dividends, and it may encounter the obstacle of information asymmetry
Privatization of state-owned enterprises	The privatization of state-owned enterprises will cause the problem of "insider control". State-owned enterprises bear policy burdens, resulting in the lack of viability of state-owned enterprises, and the government will provide subsidies. Once privately owned, private bosses will ask the government for subsidies; )

Build a three-level state-owned assets management mechanism

My (Mr. Xu Gao) idea is to establish dozens (or even more) state-owned investment funds, and let these funds bid for the stocks of various state-owned enterprises in the secondary market, and compete for the ownership of state-owned enterprises. At the same time, the shares of these state-owned investment funds are put into the residents' social security personal accounts, so that residents can share the investment returns brought by the state-owned investment funds. At the same time, residents are given the right to convert their fund shares into other products such as state-owned investment fund shares or social security fund shares, so as to ensure that residents can exert influence on the management of the fund by "voting with their feet". In this way, the time preference of residents will become a real pressure that fund management can feel. State-owned investment funds are administratively managed by the state, but are operationally accountable to fund share holders. The assessment of the fund manager is also very simple and transparent, just assess the investment return rate of the fund. In order to maximize investment returns, the fund must naturally care about the information of residents' preferences conveyed from asset prices, so that the investment of the fund is consistent with the residents' preferences.

The performance appraisal pressure felt by state-owned investment funds will be transmitted to the management of state-owned enterprises through the market. The pressure of competition among funds will allow the fund to fully exercise the rights of its shareholders, ensuring that the management of the company will act in accordance with the will of the fund to maximize the value of the company, thereby improving the performance of the fund. The management of state-owned enterprises under the supervision of SASAC can also turn a blind eye to the company's stock price. But after the state-owned investment fund becomes a major shareholder, the stock price will become the baton of the management, thus ensuring that the management of the state-owned enterprise is responsible to the shareholders.

In this way, a competitive market for the ownership of state-owned enterprises can be constructed without changing the ownership of state-owned enterprises (state-owned investment funds are all state-owned, and the enterprises they own are also state-owned). In this market, residents' preferences can become the screening criteria for investment projects. The rate of return on capital and the time preference of residents can thus be balanced. A market mechanism for adjusting consumption and investment was thus established.