Now China is a Keynesian - Can $586 b stimulus save world economy?

Monday, China’s $586 billion dollar stimulus plan appears to have positively reverberated around the world’s stock markets. China’s own indicies were up more than 7 percent, while major indexes in Asia were up 2 to 5 percent on Monday. Even Europe got in on the fun, with its major indexes up 1 to 2 percent. Is the world going Keynesian again, returning to 70s era deficit spending? Will a huge financial spending package in China be enough to mollify stock markets, ending their bear runs?

I am not normally one to attribute rhyme and reason to the movements of stock market indexes. In most cases, only a fool would say how a market is going to move on any given day. Yet today, with the news from China’s central government that it would encourage its domestic market to invest and consume more, it appears to have moved markets in a straight-forward correlation. Certainly, Chinese investors have come to expect the government to step in to prop up stock markets. Last week, it was a rumored $50 billion ‘buffer fund’ that prompted China investors to rally.

US investors are not so easy to impress. The Chinese spending package was not enough to dent the malaise over the US markets, which today were hit by the new of the bankruptcy filing of a major electronics retailer, Circuit City, and layoffs at the US subsidiary of DHL. Finally, the spectre of a slew of possibly negative economic data to be released later this week, including the trade balance, may be prompting caution.

But, back to China, the relatively huge gains in China and other Asian markets indicates, to me at least, that China’s economic news does have the power to help stimthe regional stock markets. But will the package, as China’s leaders claimed, actually help stabilize the world economy? Put another way, can China’s economy save the world’s?

To elaborate on that point, one must not imagine that China will quickly start spending its half trillion dollars to ramp up imports, thereby helping its trading partners. The main effects of this package will be to further push China’s economy toward domestically-fueled expansion via consumption and investment.  It is China’s biggest package ever, the equivalent a $2 trillion package for the US economy, but it will do little to help the world economy, other than encouraging a stable China.

China can afford the package without running a huge deficit, but is there any other cost? Inflation, possibly. One thing is clear, China is most definately now a Keynesian. I hope it can avoid the fate of Japan of the 90s, which tried, and is still trying, to spend its way out of the economic doldrums. Nobody wants to see another lost decade.