Kenneth Rogoff argues that China's problems can be traced back to its response to the 2008 financial crisis

Progressive economists tend to view the massive stimulus package China deployed in response to the 2008-09 global financial crisis – which amounted to 12.5% of GDP – as a bold Keynesian masterstroke that every government should seek to emulate. The World Bank and the International Monetary Fund also sang China’s praises, as did developing economies that benefited from the resulting commodity boom.

But as economists took a closer look, a more complex picture began to emerge. While the mega-stimulus was undeniably effective in the short term, it also distorted the quality of China’s growth and sowed the seeds for many of the country’s current problems. This has prompted a broader reassessment of the government’s role in managing the economy. It turns out that when the state exercises too much control, it often does more harm than good.

Of course, China’s initial stimulus package – launched at the end of 2008 and running through 2010 – did not mark the end of government support. By allowing local governments to borrow off the books, effectively guaranteeing the bonds of local construction firms, China provided massive support to the infrastructure and real-estate sectors and extended the stimulus for another decade. Consequently, these two sectors now account for roughly one-third of total demand, far surpassing the levels in the European Union, Japan, and the United States.

A recent Brookings conference paper by Princeton economist Wei Xiong and his co-authors offers sobering insights into how China’s prolonged government stimulus has affected private-sector activity. Analyzing local data, they show that, contrary to the expectations of standard Keynesian models, provincial GDP growth was strongly correlated with both corporate profits and retail sales between 2002 and 2008. Remarkably, those correlations disappeared entirely from 2011 to 2019. A related analysis in the same paper finds that city-level productivity growth – controlling for capital and labor inputs – was robust before the stimulus but declined significantly in the subsequent years.

These findings are consistent with an earlier study I co-authored with the IMF’s Yuanchen Yang, which argued that China’s construction sector has been generating diminishing returns after years of overbuilding. This has now created a housing glut that has sent prices in many cities into freefall. Given that real estate accounts for a substantial share of Chinese household wealth, it should come as no surprise that consumer demand has collapsed, triggering deflation – even as official GDP growth figures continue to hover around 5%.

Western analysts are often frustrated by the Chinese government’s reluctance to roll out a major stimulus package aimed at boosting consumer demand, as the US did through direct cash transfers during the COVID-19 pandemic. But they often overlook a key point emphasized by Wei and his co-authors: China is a hybrid economy in which the government plays a far more central role than it does in any developed country.

For years, Chinese policymakers could defend the status quo by pointing to the economy’s rapid growth. Today, that argument carries far less weight. The quality of growth has steadily declined, and sooner or later it will no longer be possible to mask the economy’s underlying weaknesses with accounting tricks and unproductive infrastructure projects. The only sustainable path to reviving growth is for the central government – which has forcefully consolidated power over the past decade – to relinquish some of it to local governments and, critically, to the private sector.

US President Donald Trump’s trade war has made it even more urgent for China to restore private-sector dynamism. Exports remain the most dynamic and globally competitive part of China’s economy, representing the country’s best hope for boosting productivity and escaping its current malaise. With this engine now sputtering, the government must find new sources of growth, and only the private sector is positioned to rise to the challenge.

While there is much to admire in China’s economic achievements over the past few decades, the massive stimulus deployed after 2008 was not the unqualified success that so many progressive Keynesians claim. In fact, it should serve as a cautionary tale.

One result is China’s rising debt-to-GDP ratio, which further constrains the government’s ability to stimulate the economy. According to the IMF’s Fiscal Monitor, China’s public debt is projected to exceed 100% of GDP by 2027 – and more than 300% when corporate and household debt is included. While some may argue that China’s low interest rates make this debt burden manageable, it’s worth remembering that the same was once said about the US. Like Japan, China can keep interest rates low for extended periods through financial repression, but the likely trade-off is slower growth. Japan’s experience over the past three decades offers a glimpse of where that path may ultimately lead.

Chinese policymakers are creative and capable, but some of the current problems are of their own making. Whether they can find a way out of this current predicament – or whether China becomes yet another victim of the middle-income trap – remains an open question. But it is already clear that hoping for a repeat of 2008 is deeply misguided. A well-crafted stimulus aimed at raising consumer expenditure could help, but only if it was channeled mainly through private-sector demand.

*J Kenneth Rogoff, a former chief economist of the International Monetary Fund, is Professor of Economics and Public Policy at Harvard University.. Copyright: Project Syndicate, 2025, and published here with permission.