China’s Tax Cuts Just Won’t Cut It

(Bloomberg Opinion) -- Beijing's tax cuts will do little to lift China Inc. from its malaise.  

On Tuesday, Premier Li Keqiang's annual work report to the National People's Congress set out a widely expected cut of 3 percentage points to the top value-added tax bracket of 16 percent and a 1 percentage point cut to the 10 percent bracket. In theory, both are aimed at alleviating pressure on the manufacturing, transportation and construction sectors. Bloomberg News reported the plan on Monday. 

All told, Beijing is looking to reduce companies' tax and social contributions by around 2 trillion yuan ($298 billion) this year, compared with 1.3 trillion yuan last year. 

Generous as that is, the tax cuts don't solve the single biggest problem crimping China's companies: longer working capital cycles. An ongoing liquidity squeeze continues to deprive private and, increasingly, state-backed companies of credit, which is affecting their everyday operations and ability to service debt. As I've written, capital structures have weakened; short-term borrowings are becoming a larger part of firms' total debt; receivables are ballooning, as are the number of days inventories are held. Large swathes of the manufacturing sector are paralyzed.

Beijing is beginning to acknowledge this. Li's paper noted that various levels of the government must pay off at least half of the debt owed to businesses by the end of this year, and can't pile on more account payables. As my colleague Shuli Ren and I have noted, state-backed companies have been squeezing cash from their capital-starved suppliers and customers: SOEs owe the private sector 2.1 trillion yuan in the form of net account receivables, one of the many problems affecting companies' liquidity.

The manufacturing sector, mired in a crisis of confidence, needs more than this tax cut. These companies — mostly private — have long borne a disproportionate burden of taxes, contributing a third of the government's revenue. A cut to the top bracket will amount to a tax reduction of 400 billion yuan to 600 billion yuan, according to Morgan Stanley. That's about 2 percent to 3 percent of corporate profits overall, or 5 percent to 7 percent for manufacturers. Meanwhile, their profits shrank between 8 percent and 14 percent every month last year. So even as the tax cut lifts profitability, it isn't enough to restart the capital-expenditure and investing cycle.

Unlike in years past, Beijing's ability to stir demand is more constrained. Efforts to boost credit to private companies have largely fallen flat. A uniform, corporate tax cut would do more to spur investment and growth. But, then again, such levies account for more than 20 percent of government revenues. Such a move would erode the state's income further.

Another option, as Goldman Sachs Group Inc. analysts note, would be more stimulus in the form of aggressive government-led spending on infrastructure, for example, or monetary-policy easing. That would have a bigger impact on growth than measures such as tax cuts, which merely “push on a string.” 

If Beijing isn't willing to resuscitate its corporate sector soon, it'll be left dragging a lifeless shell.

To contact the editor responsible for this story: Rachel Rosenthal at rrosenthal21@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Anjani Trivedi is a Bloomberg Opinion columnist covering industrial companies in Asia. She previously worked for the Wall Street Journal.

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