On Zero Sum Thinking

On The Economics of Time Wasting in Football

Or soccer, if you so prefer.

So what is the issue here? If you are a football fan, you know it all too well. But if you are not, here is some background:

The International Football Association Board (Ifab) has ordered referees around the world to clamp down on time-wasting and add on the exact time taken for goal celebrations, substitutions, injuries, red cards, penalties and VAR checks. Referees would previously add 30 seconds for each goal or substitution.
An average of 16 minutes and 34 seconds was added to matches on the opening weekend of the EFL season, with 29 bookings for time-wasting compared with two on the final day of last season. Any player who stands in front of a free-kick to prevent it being taken quickly or kicks the ball away to delay a restart, for example, will be cautioned.


… and you’d think that’s a good thing, right? Even the most casual fan of football is all too aware of the fact that there is a lot of time-wasting that goes on. So anything that helps eradicate it is a good thing, surely?

Well, turns out there’s two ways to “deal” with time-wasting. One, do it hockey style. Field hockey uses a stop-clock, and the clock is, well, stopped when play is stopped. The countdown timer is reactivated when play begins, and we “count down” the amount of time that needs to be played.

The second method, which is the one that football currently favors, is to not use a stopwatch, but rather to count the number of minutes that play has been stopped for, and add those minutes as “extra” time.

So why the second method, and not the first?

Well, economics:

Why is this happening? As ever, follow the money. The drive to increase active “game time” (itself a vapid, ill-defined concept) comes directly from Fifa. And Fifa is essentiality a TV rights distributions agency, its entire model based around increasing screen revenues. What we have here is the laws of the game being employed as a tool to doctor the perceived TV entertainment value of the product; as expressed via a massively overengineered notion of what the referee’s role should be, clumsily grasped value judgments of what entertainment looks like, and how this sport, our own shared treasure, should feel and look.


If you found it difficult to untangle the simple message in that paragraph, here is the quick takeaway: longer games means more advertising opportunities. But it also means more goal-scoring opportunities, which means more entertainment… which means, well, more advertising opportunities.

Is that a cynical hypothesis, or is this backed up by data?

In the 49 games played so far, the average match duration is now 101 minutes and 40 seconds, an increase of three minutes and 36 seconds on last season. This means Premier League games are lasting even longer than matches at last year’s men’s World Cup, where world governing body FIFA pressed the need to give fans better value for money in terms of action.
Even more dramatic is the uplift in effective playing time — the amount of time the ball is in play — with that increasing by four minutes and 25 seconds to 59 minutes and 30 seconds.
These extra minutes have produced more goals, with 151 being scored already this season, 3.1 per game. And 22 of those goals have come in added time, compared to only five at this point of the season last year.


So who’s complaining? We have more people watching more goals being scored, and therefore advertising revenue has gone up. Seems like a good thing all round. No?


The move has not been greeted by everyone, though, with several prominent managers and players pointing out this would lead to more fatigue, injuries and potential burnout. European football’s governing body UEFA has refused to implement the new guidelines, opting instead to tell their match officials to keep the game moving.


So what should we be optimizing for?

  1. Should players be optimizing for not doing time wasting? What if they see their opponents doing it? How does the game theoretic solution then work out? How does it work out under the stopwatch rule? How does it work out under the added-time rule?
  2. Should the organizers be optimizing for players’ well-being? Or for advertising revenue?
  3. Should player recruitment change to account for the fact that matches will last longer? Should the number of substitutions be increased to account for longer matches? But will that not affect smaller clubs disproportionately?

If you are a fan of the sport, thinking through all this (and more) gives you a way to understand how one decision can impact so many others. Learn to transfer this type of interconnected thinking into other domains.

If you are a fan of economics or public policy, use the tools of your trade to think through the “best” solution. But realize that no solution is perfect, and that somebody, somewhere, will end up complaining. Maybe the players will play for too long, maybe you’ll stymie revenue growth, maybe coaches will come up with strategies to “work around” this problem.

And if you are a fan of both football and economics/public policy tell me what I’m missing!

Ethan Mollick et al on AI’s Jagged Frontiers

The public release of Large Language Models (LLMs) has sparked tremendous interest in how humans will use Artificial Intelligence (AI) to accomplish a variety of tasks. In our study conducted with Boston Consulting Group, a global management consulting firm, we examine the performance implications of AI on realistic, complex, and knowledge-intensive tasks. The pre-registered experiment involved 758 consultants comprising about 7% of the individual contributor-level consultants at the company. After establishing a performance baseline on a similar task, subjects were randomly assigned to one of three conditions: no AI access, GPT-4 AI access, or GPT-4 AI access with a prompt engineering overview. We suggest that the capabilities of AI create a “jagged technological frontier” where some tasks are easily done by AI, while others, though seemingly similar in difficulty level, are outside the current capability of AI. For each one of a set of 18 realistic consulting tasks within the frontier of AI capabilities, consultants using AI were significantly more productive (they completed 12.2% more tasks on average, and completed tasks 25.1% more quickly), and produced significantly higher quality results (more than 40% higher quality compared to a control group). Consultants across the skills distribution benefited significantly from having AI augmentation, with those below the average performance threshold increasing by 43% and those above increasing by 17% compared to their own scores. For a task selected to be outside the frontier, however, consultants using AI were 19 percentage points less likely to produce correct solutions compared to those without AI. Further, our analysis shows the emergence of two distinctive patterns of successful AI use by humans along a spectrum of human- AI integration. One set of consultants acted as “Centaurs,” like the mythical half- horse/half-human creature, dividing and delegating their solution-creation activities to the AI or to themselves. Another set of consultants acted more like “Cyborgs,” completely integrating their task flow with the AI and continually interacting with the technology.


That’s the abstract of a paper written by a team of academicians based in the United States, of whom Prof. Ethan Mollick is one. The idea behind the paper is very simple: can we quantify just how much of an improvement in productivity is made possible because of using AI?

And the TL;DR is that productivity is way up. From the abstract: “consultants using AI were significantly more productive (they completed 12.2% more tasks on average, and completed tasks 25.1% more quickly), and produced significantly higher quality results (more than 40% higher quality compared to a control group)”

Some points of especial interest from my perspective:

  1. The advantages of AI are substantial, but unclear. We don’t know which tasks will be completed more efficiently (and better) by using AI, and which won’t. Worse, nobody knows for sure. It is very much a trial-and-error thing. (pg 3)
  2. This is a dynamic problem. How our interaction with AI changes, how the nature of our tasks change, and how AI gets better – all of these will vary with time. This paper will be outdated within a matter of weeks, not days – but that is a feature, not a bug. (pg 4)
  3. What was the task itself? Note that there were two different experiments, and within each experiment, there were two tasks. The first experiment was “within the frontier”, which means an experiment that was thought to be well within GPT-4’s capabilities. For each experiment, participants were “benchmarked” using an assessment task, and were then asked to work on an “experimental” task. I will always be referring to the “experimental” task:
    “In this experimental task, participants were tasked with conceptualizing a footwear idea for niche markets and delineating every step involved, from prototype description to market segmentation to entering the market. An executive from a leading global footwear company verified that the task design covered the entire process their company typically goes through, from ideation to product launch.5 Participants responded to a total of 18 tasks (or as many as they could within the given time frame). These tasks spanned various domains. Specifically, they can be categorized into four types: creativity (e.g., “Propose at least 10 ideas for a new shoe targeting an underserved market or sport.”), analytical thinking (e.g., “Segment the footwear industry market based on users.”), writing proficiency (e.g., “Draft a press release marketing copy for your product.”), and persuasiveness (e.g., “Pen an inspirational memo to employees detailing why your product would outshine competitors.”). This allowed us to collect comprehensive assessments of quality.” (pg 8 and pg 9)
  4. This was especially impressive:
    “Our results reveal significant effects, underscoring the prowess of AI even in tasks traditionally executed by highly skilled and well-compensated professionals. Not only did the use of AI lead to an increase in the number of subtasks completed by an average of 12.5%, but it also enhanced the quality of the responses by an average of more than 40%. These effects support the view that for tasks that are clearly within its frontier of capabilities, even those that historically demanded intensive human interaction, AI support provides huge performance benefits.” (pg 12)
  5. The “outside the frontier” task:
    “Participants used insights from interviews and financial data to provide recommendations for the CEO. Their recommendations were to pinpoint which brand held the most potential for growth. Additionally, participants were also expected to suggest actions to improve the chosen brand, regardless of the exact brand they had chosen” (pg 13)
  6. Even in the case of these tasks, there was improvement across the board in terms of lesser time spent, and also in terms of improvement of quality in output (pg 14 and 15)
  7. The authors found that there were two dominant approaches:
    “The first is Centaur behavior. Named after the mythical creature that is half-human and half-horse, this approach involves a similar strategic division of labor between humans and machines closely fused together.12 Users with this strategy switch between AI and human tasks, allocating responsibilities based on the strengths and capabilities of each entity. They discern which tasks are best suited for human intervention and which can be efficiently managed by AI.
    The second model we observed is Cyborg behavior. Named after hybrid human- machine beings as envisioned in science fiction literature, this approach is about intricate integration. Cyborg users don’t just delegate tasks; they intertwine their efforts with AI at the very frontier of capabilities. This strategy might manifest as alternating responsibilities at the subtask level, such as initiating a sentence for the AI to complete or working in tandem with the AI.” (pg 16)
  8. And finally, their concluding paragraph:
    “Finally, we note that our findings offer multiple avenues for interpretation when considering the future implications of human/AI collaboration. Firstly, our results lend support to the optimism about AI capabilities for important high-end knowledge work tasks such as fast idea generation, writing, persuasion, strategic analysis, and creative product innovation. In our study, since AI proved surprisingly capable, it was difficult to design a task in this experiment outside the AI’s frontier where humans with high human capital doing their job would consistently outperform AI. However, navigating AI’s jagged capabilities frontier remains challenging. Even for experienced professionals engaged in tasks akin to some of their daily responsibilities, this demarcation is not always evident. As the boundaries of AI capabilities continue to expand, often exponentially, it becomes incumbent upon human professionals to recalibrate their understanding of the frontier and for organizations to prepare for a new world of work combining humans and AI. Overall, AI seems poised to significantly impact human cognition and problem-solving ability. Similarly to how the internet and web browsers dramatically reduced the marginal cost of information sharing, AI may also be lowering the costs associated with human thinking and reasoning, with potentially broad and transformative effects”

This chart tells uite the story:

https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4573321 (pg 28)

The appendix (pg 44 onwards) details the tasks, if you would like to go through them.

Finally, a part of the abstract that I’m still thinking about:

“Consultants across the skills distribution benefited significantly from having AI augmentation, with those below the average performance threshold increasing by 43% and those above increasing by 17% compared to their own scores. For a task selected to be outside the frontier, however, consultants using AI were 19 percentage points less likely to produce correct solutions compared to those without AI”

A lovely, thought-provoking paper. Whatever your own opinions about the impact of AI upon productivity, employment and output, a carefully designed academic study such as this is worth reading, and critiquing.

And if you are currently in college (any college), learn how to get better at working with AI!

What Are You Optimizing For, Weird Art Edition

A Danish artist who pocketed large sums of money lent to him by a museum – and submitted empty frames as his artwork – has been ordered by a court to repay the funds.


So begins an article in the Guardian (h/t John Burn-Murdoch on Twitter). It is a short article, won’t take more than a couple of minutes to read it. But it will take you a fair bit of time and effort to understand its implications in their entirety.

An artist called Jens Haaning was commissioned by the Kunsten Museum in Aalborg to recreate two earlier works by him. One of these was titled An Average Danish Annual Income. It simply displays krone notes in a canvas. Another work by the same artist is apparently pretty much the same idea, but using euro notes instead.

So this time around, the Kunsten Museum provided about 61k Euros, give or take, to recreate the work. The result?

But when staff unpacked the newly delivered works, they found two empty frames with the title Take the Money and Run.The museum put the new artworks on display, but when Haaning declined to return the money, it took legal action.


Well, is it a crime or not? Did he create a work of art or not? What does the law say, and what does economic theory say?

Here’s my understanding from an economic perspective:

  1. Yes, he created a work of art. One may not like it, one may not approve of it, but it is there all right.
  2. Was he obligated to use the currency notes that had been supplied? My take is that he wasn’t, unless this was explicitly specified in the contract. I have of course not seen the contract, but I found this interesting: “The work is that I have taken their money. It’s not theft. It is breach of contract, and breach of contract is part of the work”.
  3. I find this interesting because the artist seems to be making the argument that even if the contract was explicit about using the supplied currency notes in the artwork, his interpretation of the commissioned project involved breaching the contract. What is more important when it comes to a case like this? The legal interpretation of the contract or the (artistic) interpretation of the same document by the artist?
  4. As regards that last question in pt. 3, how should the artist think about this? How should a lawyer think about this when on the prosecuting side? How should a lawyer think about this when on the side of the defense? How should an economist think about this? How do you think about this?
  5. The article ends with this (deeply troubling for me) quote: “I encourage other people who have working conditions as miserable as mine to do the same. If they’re sitting in some shitty job and not getting paid, and are actually being asked to pay money to go to work, then grab what you can and beat it”
  6. “Working conditions as miserable as mine”? Who decides? On what basis? By what benchmark? Is the benchmark a universal one, or does it change by country? Or by some other variable(s)? How do we decide?
  7. Does this apply to all creative endeavors? What if I don’t teach Principles of Economics well, or at all? Do students learn better when they are forced to learn on their own? If yes, am I actually being a good teacher by refusing to teach?
  8. Writing contracts out explicitly matters. Institutions matter. Repeated games in game theory matter.
  9. And dare I say, ethics matter.

A Twitter Thread and an Essay by Michael Pettis

Both of which are a continuation of the theme for this week.

The thread:

This thread answers the question about whether China finds itself in a liquidity trap. In English, it would seem that no matter what levels of interest rates in the economy, Chinese businesses prefer to save rather than invest.

You may agree or disagree with the conclusion (I most certainly agree), but the data is instructive. Please read the article linked in the first tweet.

The essay:

Any economy broadly speaking has only three sources of demand that can drive growth: consumption, investment, and trade surpluses. For that reason, there are basically five paths that China’s economy could take going forward.

China can stay on its current path and keep letting large amounts of nonproductive investment continue driving the country’s debt burden up indefinitely

China can reduce the large amount of nonproductive investment on which it relies to drive growth and replace it with productive investment in forms like new technology

China can reduce the large amount of nonproductive investment on which it relies to drive growth and replace it with rising consumption

China can reduce the large amount of nonproductive investment on which it relies to drive growth and replace it with a growing trade surplus

China can reduce the large amount of nonproductive investment on which it relies to drive growth and replace it with nothing, in which case growth would necessarily slow sharply

The Only Five Paths China’s Economy Can Follow

Quick note: Blogging may be sporadic and light in the coming days.

A Tale of Two Countries

Although I should note that I have given up on trying to figure out if it is the best or worst of times. Who knows?

But rhetoric aside, today’s blogpost continues our attempts at trying to understand just what the hell is going on in China. And we do so by reading an excellent report written by Michael Pettis (here are previous EFE posts where Michael Pettis has been mentioned):

In the United States and China, rising debt is structural, and necessary to the way in which their economies currently operate. While it is indeed likely that part of the debt in both countries is due to profligacy, irresponsible behavior, and even fraud, these do not explain the bulk of the increase in debt. Even with the strictest controls, until more fundamental changes are made to the two economies, either debt must continue to rise or growth must slow to politically unacceptable levels—levels that cause unemployment to rise.


Michael Pettis makes the claim (and in my opinion it is a convincing one) that investment in China is not going to come down anytime soon. Which means, we know by now (see the first two posts of this week), that investment by government will not come down anytime soon. And why will it not come down anytime soon? Because China needs to grow, and growth can’t come from anywhere else but government led investment.

Think of three questions:

  1. Why does China need to grow?
  2. If we accept that China needs to grow, how can China ensure that it continues to grow?
  3. So what happens next? This question I can answer right away, actually. It is, currently, anybody’s guess!

Question 1: why does China need to grow?

Well, because growth is good – is that not a good enough reason?

Sure, it is, but more importantly, a lack of growth is not politically acceptable. How can low growth be possible when it is Xi himself at the helm? And so China Must Grow. Or be seen to be growing. Or don’t see the fact that China is not growing. But preferably, China Must Grow.

Question 2: How can China ensure that it continues to grow?

Well, let’s have China consume more! Except that this is easier said than done:

China suffers from two forms of income distortions that limit demand for Chinese businesses. The one most discussed is income inequality: rich Chinese individuals (like rich Americans) retain a disproportionately high share of household income. But the second, more important form of income distortion is the very low share Chinese households retain of the country’s GDP—roughly 60 percent versus the roughly 80 percent typical in the United States. The low household share of GDP has the same effect on demand as income inequality.


OK, then how about getting China to invest more?

Well, that pretty much describes the twenty year period between 1995 to 2015 (more or less). But that party ended a while back:

In fact, in more recent years, they have actually reduced investment in response to stagnant domestic consumption. In both the United States and China, the biggest constraint to productive investment by private businesses is weak domestic demand.


So OK, China has to continue to grow rapidly, but that can’t happen via consumption. Because inequality, and because Chinese households get a very low share of China’s GDP. It can’t happen via private investment either, because faced with weak domestic demand, private investment prefers to stay out of the game. So what comes next? Government led, non-productive investment.

The problem is that around the mid-2000s, investment in infrastructure, property, and government-owned projects in the aggregate began to create less economic value than it cost. The result was that China responded to the high savings of wealthy individuals and the government with a surge in nonproductive investment, which led to a surge in the country’s debt burden. This is the reason that China is forced to encourage a rapid rise in debt as the only way to prevent a rapid rise in unemployment.


Or, alternatively, if domestic demand is weak, cater to global demand:

China’s trade surplus allows it to externalize a part of the domestic demand deficiencies caused by low consumption, and so reduces the amount of nonproductive investment (and debt) needed to balance Chinese supply and demand. The American trade deficit forces it to absorb foreign demand deficiencies and so increases the amount of debt needed to balance American supply and demand. But while the countries’ different trade positions exacerbate U.S. debt and reduce Chinese debt, it leaves China overly sensitive to changes in external demand and to trade conflicts, while the United States actually benefits from trade conflict.


But now, post the pandemic, and post the world’s reluctance to remain overly dependent on China, “externalizing domestic demand deficiencies” is no longer possible. And China has done more than its fair share of government-led, non-productive investment. And so China is now faced with two choices:

  1. Don’t accumulate debt, and therefore grow more slowly. But hey, Great Helmsman, so China Must Grow.
  2. Accumulate debt, and grow rapidly, but by making stuff nobody wants. But even this has run its course in 2023, it would seem.

There is secret option 3: liberalize markets, let investments be market driven, and let consumption grow organically and therefore eventually more rapidly. This is the theoretically correct answer, if you ask any economist. This is the politically impossible answer, if you ask any political scientist even remotely familiar with China.

Which boils down to the all-important question:

In a fight between good economics and bad politics, who wins?

My answer to this question is another question:

What time horizon do you have in mind?

Scott Sumner on “The Confusing China Debate”

You should read yesterday’s post before tackling this one. Consider yourself warned!

Scott Sumner, whose post on China we’re discussing today, has a nice excerpt from the WSJ, which I’ll reproduce below:

Economists and investors have been calling on Beijing to make bolder efforts to boost output—especially by promoting consumer spending, if necessary, by offering cash handouts, as the U.S. did during the pandemic.
Accelerating China’s transition to a more consumer-led economy—such as that of the U.S.—would make growth more sustainable in the long term, economists say.
But top leader Xi Jinping has deep-rooted philosophical objections to Western-style consumption-driven growth, people familiar with decision-making in Beijing say. Xi sees such growth as wasteful and at odds with his goal of making China a world-leading industrial and technological powerhouse, they say.
Xi believes Beijing should stick to fiscal discipline, especially given China’s deep debt. That makes stimulus or welfare policies akin to those in the U.S. and Europe less likely, the people said.


He goes on to say that Xi is right when he says that welfarism ain’t right for China. But, he goes on to say, the economists are also right when they say that China needs stimulus. So if the government won’t give the meds but China needs the meds, then where do the meds come from? Monetary stimulus should step up to the plate, per Sumner.

GDP, as any first year student of econ will tell you, is C+I+G+NX. Well, any Indian student, at any rate, but that’s a whole other story. Look this up, if this is not familiar to you.

Scott Sumner says that this framing is problematic. Why problematic? Because if we economists see that I (investment) is down, and GDP needs to go up… well then, we’ll say that either C should go up or G should (or both). But Scott says that this is wrong. No policymaker, he says “could realistically have the information required to make that judgment.”

His point is that what we should be saying is that China needs to do less wasteful investment. China has a lot of “white elephants“. Stop building those out, and let the market work out what is needed. The Chinese government should encourage more private investment and discourage public investment.

Well… that’s a bit like saying that an alcoholic should not drink quite as much. Easy to say, difficult to make happen. This is not, to be clear, me making fun of Scott’s argument. I’m simply trying to give you an analogy that might make understanding this easier. In fact, Scott himself later on in his post says that he is describing what ought to happen in an ideal scenario:

Some might argue that my analysis is naïve because China is far from being a laissez-faire economy. Monetary stimulus won’t necessarily go into the most efficient sectors. I agree. I am describing the sort of outcome that China should be aiming for. Determining which policy levers to push requires an in depth knowledge of the current policy distortions that lead to a misallocation of resources. Thus monetary stimulus might be combined with banking reform to reduce moral hazard. The goal would be to reduce lending for nonproductive investments, such as dubious real estate projects. But again, that’s not aiming for “less investment”, that’s aiming for less wasteful investment.


I find myself in agreement and in disagreement with Scott’s post. Agreement because the advice is sound. Disagreement because there isn’t a snowball’s chance in hell of this happening. How does the Chinese government, of all institutions, credibly show that it will be a passive and benevolent spectator to market-driven investment? Remember, this is XI’s government!

So as a theoretical solution, sure. As a practical solution? Not so much. If you want the Chinese economy to get out of the situation it finds itself in, you have to come up with solutions that take into account the ground reality. And the ground reality is that the Chinese economy works at the pleasure of the Chinse government, and the Chinese economy is never quite sure about what the Chinese government will do next. So for the Chinese economy to muster up the courage to gather funds and deploy them on multi-year investment projects, and to trust that the Chinese government will do nothing to get in the way across all of those years is… well, not happening.

Scott Sumner knows China a million times better than I do, so of course he knows this. Don’t read his blog post as being indicative of what he thinks the Chinese government will do. Read it as what he things the Chinese government ought to do.

The real issues are using monetary policy to assure nominal stability, and moving to a more market oriented economy to insure economic growth and higher living standards for the future.


You may or may not agree with the first half of that sentence (I personally think there is room for fiscal policy along with monetary policy). Everybody agrees with the second half.

Everybody, that is, except the Chinese government.

More’s the pity.

China and a Balance-Sheet Recession

This is a topic I’ve been thinking about a fair bit recently, and to the extent that it is possible to do so, I want to spend some time in thinking about this in greater detail throughout this week. What’s up with China, and how should we think about

  1. What got China where it is today?
  2. Where does China go from here?

There are other things to think about in this regard, particularly as an Indian, but that takes me into the realm of geopolitics, and I know very little about it. One day, maybe. But for now, the question of what got China where it is today.

And lots of things have gotten China where it is today. But one of the many strings that we need to pick up on and see where it takes us begins with a country and a person. The country is Japan, and the person is Richard Koo. Koo is most famous, of course, for having coined the phrase “balance-sheet recession”:

After its stockmarket bubble burst in 1989, share prices plunged by 60% in less than three years. Property prices in Tokyo fell for over a decade. Deflation, by some measures, persisted even longer. Even the price of golf memberships—tradeable on organised exchanges in Japan—tumbled by 94%. Many companies, which had borrowed to buy property or shares in other firms, found themselves technically insolvent, with assets worth less than liabilities. But they remained liquid, earning enough revenue to meet ongoing obligations. With survival at stake, they redirected their efforts from maximising profit to minimising debt, as Mr Koo put it.


How should you think about this? Well, here’s a very simplified example. Imagine that every single household in your locality decides to not spend more in the month of September 2023, but instead save more. That may be good news for each household, but can you imagine what the local grocer, the neighborhood restaurants and the local movie-theater might feel about such a move? Exactly the same thing happened in Japan, but at a national level:

In post-bubble Japan, things looked different. Instead of raising funds, the corporate sector began to repay debts and accumulate financial claims of its own. Its traditional financial deficit turned to a chronic financial surplus. Corporate inhibition robbed the economy of much-needed demand and entrepreneurial vigour, condemning it to a deflationary decade or two.


The question that The Economist article asks and answers is whether China is “going the Japan way”. Note that this has been covered on EFE before, by the way.

And the answer they come up with is yes, but only kinda-sorta. And there’s (of course) more to it than just that. Yes, Chinese firms have accumulated insane amounts of debt, yes China’s house prices are undergoing a massive correction, and yes credit growth has slowed sharply.

But most of the debt is held by SOE’s, and they will borrow more, if that is what the Chinese government desires. And Chinese households drawing down their debts has more to do with the peculiarities of the Chinese market for mortgages than with households having stressed balance sheets. In fact, if anything, Chinese household debts are reasonably low. On the whole, the article argues, Chinese businesses don’t seem to be behaving the way Japanese businesses were in the 1990’s.

So yes, debt reduction is a thing in China, but it’s not quite Japan all over again, not yet. There is a problem, in other words, and it kind of looks like the Japan problem, but only in some ways. Still, it is a problem, there is no getting around that fact.

So how should this problem be solved?

Richard Koo says that the government should spend its way out of this problem. If the private sector is running up fiscal surpluses (saving more), than those savings need to be deployed somewhere. Where? The government should borrow and spend that money, according to Richard Koo.

If you accept that this is a good solution, there is only one problem. It would seem the Chinese government is not willing to play ball:

The country’s budget deficit, broadly defined to include various kinds of local-government borrowing, has tightened this year, worsening the downturn. The central government has room to borrow more, but seems reluctant to do so, preferring to keep its powder dry. This is a mistake. If the government spends late, it will probably have to spend more. It is ironic that China risks slipping into a prolonged recession not because the private sector is intent on cleaning up its finances, but because the central government is unwilling to get its own balance-sheet dirty enough.


And if you’ve got a mild headache thinking through all of this, I’ve got worse news for you. There are other economists who would argue that it is a good thing that the Chinese government is not willing to play ball. Fiscal policy, they argue, is not the way to solve this problem.

So what is their solution?

We’ll find out tomorrow.

When Computers Write Proofs…

Brad Setser on Tyler Cowen on China