EVERY economy, like every story, has two sides: supply and demand. The supply side of China’s economy is the stuff of legend: 767m workers, perhaps $20 trillion-worth of machinery, buildings and other kinds of capital, combined with rapidly advancing techniques and technologies, many of them assimilated from abroad. This combination of labour, capital and know-how dictates how much the economy can produce. But whether it actually does produce all it can depends on the other side of the economy—the demand side—which reflects the spending decisions of consumers and investors. The supply side sets the scene; the demand side provides the drama.

Sadly, demand is recovering more slowly than expected. Figures released this week showed somewhat disappointing growth in fixed-asset investment and industrial production last month, following a similarly underwhelming first quarter. Economists who were expecting growth of 8-8.5% this year are now projecting something closer to 7.5%.

But as the drama darkens, the scene may also be shifting. A meeting of the State Council, China’s cabinet, on May 6th outlined a long list of structural reforms designed to improve the supply side of the economy. Some of the reforms, such as extending the value-added tax to services, are already under way. Others, such as liberalising capital flows, will reach fruition only gradually. The reforms are also in keeping with pronouncements by former leaders like Wen Jiabao, who liked to talk the reform-talk. But the new agenda “goes far beyond Wen-era platitudes in its boldness and specificity,” argues Andrew Batson of GaveKal Dragonomics, a consultancy in Beijing. The “walk-to-talk” ratio is improving, he believes.

The reform-walk would help sustain the growth of productive capacity, improving the allocation of both capital and labour. Cutting red tape and other regulatory barriers to entry would help private firms invest in industries now dominated by state-owned enterprises. By strengthening land rights and reforming the hukou (household registration) system, workers would also find it easier to leave the land and settle in the cities. The reforms could, therefore, have a big effect on the supply side of the economy.

But that is not all. The reforms might also have side-effects on consumption and investment. Even supply-side reforms can have demand-side consequences. Some tend to boost spending, others depress it. Helen Qiao of Morgan Stanley worries that some of the measures outlined on May 6th will slow demand at a time when the economy is already weak (see chart). One example is higher utility prices. They may be necessary to conserve water, electricity and gas, but they will also discourage spending. The same is true of higher taxes on natural resources, such as coal. Efforts to get a grip on local-government finances are a trickier case. Provinces have borrowed indirectly (and excessively) through financing vehicles. The central government now wants localities to borrow more directly by issuing their own bonds. Lou Jiwei, the new finance minister, has talked of closing the back door and opening the front door. Whether that helps or hurts demand depends on timing. If the government opens the front door before closing the back, it will encourage extra borrowing, boosting demand, says Ms Qiao. If it closes the back before opening the front, the opposite will happen. A similar ambiguity surrounds capital flows. China’s capital account is not entirely closed. Foreign direct investment is welcome. Short-term financial investment is also permitted, within limits, by “qualified” investors. And even many unqualified investors succeed in moving money in and out (although not without delay, subterfuge and inconvenience). Moreover, even if the government does liberalise flows, it is unlikely to leave the capital account entirely open. It will probably replace bureaucratic impediments to capital mobility with price-based deterrents, such as taxes on foreign holdings. The net effect on the exchange rate, the cost of capital and, therefore, demand, might be modest.

Liberalising the exchange rate and the interest rate are both necessary reforms. But they would depress demand, Ms Qiao argues. China now imposes a ceiling on the interest rate paid to depositors. Removing it would raise banks’ funding costs. If banks raised their loan rates in response, it would discourage borrowing. If they did not, it would hurt their margins and discourage lending. Either way, demand would be affected.

What about the exchange rate? China has attracted a strong inflow of capital in recent months, some of it disguised as export earnings. This has pushed up the yuan, which has risen by 1.4% against the dollar and by 20% against the yen so far this year. Speculators again see the yuan as a one-way bet. If the exchange rate were liberalised, they would push it up further, hurting exports and depressing demand.

Fortunately, many of the reforms outlined this month will both improve supply and boost demand. In replacing a crude turnover tax on services with a value-added tax, the government has sought to lighten the fiscal burden on services. Cutting red tape should also boost investment. And allowing rural folk both to sell their land and use public services in the cities would help them spend more freely as urban consumers.

When the taps were turned on

Just as structural reforms have implications for demand, the converse is also true: efforts to boost demand can affect the course of structural reform. China’s 2009 stimulus lending was successful in reviving demand. But it also had some damaging structural side-effects. It further skewed the economy in favour of investment, especially property construction; it made a mess of local-government finances; and it forced China’s banks to serve government ends, thus delaying their evolution into commercial lenders.

The stimulus had one other damaging side-effect—on China’s economic philosophy. Many analysts now seem to believe that all stimulus measures delay reform, if only because they ease economic pain without which policymakers will not act.

That is a mistake. Stimulus does not need to be at odds with reform. Cutting taxes or increasing social spending would both stimulate the economy and help rebalance it towards consumption and services. Likewise, many structural reforms, such as removing barriers to entry in industries now dominated by state-owned enterprises, would also simultaneously help to boost spending. The Chinese economy clearly needs reform and may soon need revival. There is no reason why the leadership cannot do both.