For Zhang Jun, the Chinese economy is once again at crossroads.

Comparing the current Chinese economic situation with where it was roughly 20 years ago fills the acclaimed professor of economics and dean of the School of Economics at Fudan University with a sense of deja vu.

Back then, there was a heated debate among economists on whether the government should bail out beleaguered state-owned enterprises that were believed to be "too big to fail" and let the smaller, less important ones go bankrupt.

We all know what happened. The government managed to free up the economy by phasing out inefficient SOEs and introducing private capital to fill the void they left behind. As a result, Chinese economy prospered.

But it came at a cost. This type of shock therapy triggered massive layoffs, leaving a traumatic impact on the collective psyche of the general populace. Consequently, it remains an anathema to this day.

Traumatic impact

Nonetheless, Zhang believes that we cannot completely take this option off the table in formulating a solution to the ills plaguing the Chinese economy today. For example, although much of academia is fixated on the much-heralded supply side reforms, there are other issues that warrant their attention, Zhang said at a recent forum held at Fudan University.

One of the few paradoxes he's noted about the Chinese economy is that the fast expansion of credit over the years hasn't translated into a brisker rate of GDP growth in excess of 7 percent.

In fact, the discrepancy between credit expansion and slower growth is becoming increasingly larger, suggesting that the liquidity injected into the economy to make it work might have gone down the drain, he said.

So where has all the money gone? After posing the question, Zhang attempted an answer himself, arguing that most of the credit is perhaps used to service outstanding loans incurred by the state sector.

His argument is predicated on years of research tallying the ratio of credit to GDP growth. The year 2008 was a watershed in his view, in that the credit needed to fuel the economy has been multiplying since 2008. In other words, the cost of growth is higher.

Zhang attributed this phenomenon to the debts that have been piling up over the years, putting the Chinese economy in a chokehold and also siphoning off a formidable amount of credit that could otherwise have gone to more productive enterprises.

He recalled attending a recent seminar in Seoul, where a Standard & Poor's analyst made the somewhat alarming statement that a big chunk of new credit lines extended in China is spent on refinancing debts.

Insolvency

Years ago, when the consequences of a spending spree following a massive stimulus package first began to reveal themselves in the form of mountainous local debts, economists warned darkly of widespread insolvency, looming defaults and a debt crisis.

That apocalyptic scenario has been staved off, at least for now, but its specter is still haunting the world's second-largest economy.

To relieve themselves of the debt burden, some debt-ridden SOEs and local governments have issued corporate or government bonds. This worked — up to a point — but repaying debts by taking on new debts sounds like a robbing-Peter-to-pay-Paul approach, merely prolonging the pain.

In Zhang's opinion, a more drastic and significant way to address the debt morass would be to sell off state-owned assets, or at least reform the equity structure of SOEs.

It takes considerable courage to suggest this radical option in light of the grave political risks it often carries. Past media reports are peppered with stories of high-ranking officials held liable for the loss of state-owned assets or lining their own pockets in the process.

But Zhang maintains that we are again at a critical juncture where some "forceful measures" are needed to cut the Gordian knot of whopping debts.

"Twenty years ago, 70 to 80 percent of SOEs were in the red and became huge fiscal liabilities. As the scale of their debts grew bigger and bigger, the authorities were forced to strategically restructure these juggernauts," he claimed.

If this debt issue is allowed to persist, it will be a continual drain of the resources meant to support China's growth, eventually culminating in a tipping point where the entire economy is in jeopardy, he said.