Public Information Notice: IMF Concludes Article IV Consultation with China

September 1, 2000

Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.

On July 26, 2000, the International Monetary Fund’s (IMF) Executive Board concluded the Article IV consultation with China.1


China’s economic performance during two decades of reform has been impressive, reflected in rapid GDP growth and a dramatic reduction in poverty. The period since 1978 has witnessed the emergence of a substantial nonstate sector and the opening up of the economy to the outside world. China’s prospective accession to the WTO will provide further impetus to these ongoing reforms.

The Asian crisis accentuated an economic slowdown that was already in train following the investment-led boom of the early 1990s. The associated fall in regional demand was compounded by weakening consumer spending due to rising uncertainties about restructuring and stagnant rural incomes, leading to a marked slowdown in activity, and, from early 1998, the emergence of deflationary pressures. To support activity, a fiscal package amounting to 2.5 percent of GDP of infrastructural spending was introduced in 1998, and interest rates were progressively lowered. This was supported by measures to encourage exports, intensified enforcement of capital controls, and a vigorous campaign to address smuggling.

Although the fiscal stimulus boosted activity in the latter half of 1998, by mid-1999 the effect of the stimulus had receded and an additional expenditure package was announced, including higher spending on infrastructure, the social safety net, and civil service wages. Moreover, monetary conditions were progressively eased during 1999 via further cuts in interest rates in June and a reduction in reserve requirements in November. Nonetheless, private domestic demand continued to be weak and deflationary pressures persisted, with the CPI falling by 1.4 percent in 1999. Despite a sharp rebound in exports from mid-1999 onwards—reflecting primarily stronger regional demand—real GDP growth declined to 7.1 percent in 1999, compared with 7.8 percent in 1998. At the same time, unemployment pressures remained. On the external side, the current account surplus halved to 1.6 percent of GDP owing in part to a narrowing of the trade surplus, with increased export growth more than offset by a surge in import growth, the latter primarily reflecting better recording due to the anti-smuggling campaign. The capital account, however, improved and the balance of payments position strengthened in 1999.

The rebound in activity witnessed in the latter part of 1999 has continued so far in 2000, with real GDP growth rising to 8.2 percent year-on-year in the first half of the year. The improved growth performance is attributable to continued buoyant exports, a recovery in private consumption, and sustained fiscal stimulus spending. However, it also reflects some special factors, including unusually long holidays which boosted consumption. For the year as a whole, growth is projected at 7.5 percent. Consumer prices are projected to increase by 0.5 percent mainly on account of rising services prices. The current account surplus is expected to remain at 1.6 percent of GDP, with rising exports offset by higher imports and services payments.

Over the last few years, the authorities have made significant progress in addressing the intertwined problems in the financial and state-owned enterprise (SOE) sectors. Reforms in these sectors are likely to be accelerated in order to prepare Chinese enterprises and banks for global competition once China enters the WTO. In the financial sector, reform efforts have involved reforms to the central bank structure, improvements to the classification and provisioning regulations, closure of insolvent financial institutions, and the setting up of asset management companies (AMCs) to take over nonperforming loans from the banks. In the SOE sector, the last few years have seen efforts to move small enterprises out of the state sector and commercialize large enterprises. Indeed, excess capacity and overstaffing have been reduced in a number of key sectors. At the same time, the authorities have focused on strengthening the social safety net in order to protect those adversely affected by reforms. In addition, the authorities have launched an initiative to narrow regional disparities and have intensified efforts to combat corruption.

Executive Board Assessment

Executive Directors commended the authorities for their skillful macroeconomic management, which has helped China to successfully weather the Asian crisis, and for pressing ahead with difficult structural reforms. They observed that the external environment is now considerably brighter, and that there are signs of a recovery in private demand and an easing of deflationary pressures. Directors urged the authorities to take full advantage of the favorable macroeconomic environment to accelerate structural reforms.

Directors viewed China’s impending membership in the WTO as adding further impetus to the already advanced process of China’s integration with the global economy. They welcomed the authorities’ strong determination to seize the challenges and opportunities of WTO accession to further the reform agenda, particularly reforms of the financial system and the state-owned enterprises (SOEs), which will help ensure sustained high quality growth and employment creation over the medium term. Directors also welcomed the authorities’ focus on strengthening the social safety net and narrowing regional disparities.

Directors broadly supported the present stance of macroeconomic policies. They agreed that the slight withdrawal of stimulus implied by this year’s budget was justified, given the improving economic outlook and considerations of medium-term sustainability. A few Directors also thought it prudent to leave options open for a supplementary fiscal stimulus package later this year since the recovery is not yet well entrenched. Directors welcomed the strengthened revenue effort and the preparations being made to improve budgetary management and introduce the fuel tax. They were also encouraged by the more comprehensive treatment of expenditure in the 2000 budget, but emphasized the importance of further widening the coverage of the budget and for further improvements in fiscal transparency. Several Directors underscored that budgetary and extra-budgetary funds alike need better accounting, reporting, and treasury management.

Directors agreed that the monetary policy stance is appropriate. Although the large and rising differential between domestic and U.S. interest rates has not resulted in overt capital account pressures, they stressed that the situation needs to be monitored closely. They also encouraged the authorities to move ahead with the liberalization of interest rates, which promises to improve the efficiency of the financial system. Directors supported China’s prudent approach to capital account liberalization, which should proceed in tandem with the ongoing reforms of the financial system and the strengthening of the regulatory and supervisory framework.

While China’s exchange rate policy has served both China and the region well during the Asian crisis, Directors considered that conditions are favorable for moving toward greater exchange rate flexibility to facilitate adjustment to ongoing structural changes and WTO accession. They noted in this context that China’s external position has progressively strengthened and the renminbi appears broadly in line with fundamentals, while adverse effects of greater flexibility are not likely to be significant. In this vein, Directors suggested that the authorities move ahead gradually with a more flexible implementation of the current arrangements, involving the widening of the trading band around a reference rate based on a basket of currencies. However, they noted that a move to greater flexibility would require measures over time to strengthen the foreign exchange market and the regulatory framework. Some Directors also stressed that the authorities should undertake further reforms in the financial sector and capital account liberalization in conjunction with the move to a more flexible exchange rate system.

Directors observed that the asset management companies’ (AMCs) activities to date had largely been book-keeping transactions, but that the AMCs are expected to take an important role in SOE and financial reforms in the coming years. A key element to the success of the AMC strategy will be to ensure restructuring of the enterprises in which the AMCs become stakeholders. Directors therefore urged the authorities to move quickly to ensure that the AMCs are equipped with the powers to restructure SOEs. They also attached great importance to developing asset resolution procedures (including revising the bankruptcy law) to provide AMCs with the skills and incentives to discharge their responsibilities, and to ensure that their financial positions are soundly based.

Directors welcomed the progress that has been made in SOE reforms, although they believed that much remains to be done. They were encouraged by the progress in sector-specific restructuring programs, the greater recourse being made to bankruptcy procedures, and the steps being taken to strengthen management incentives and corporate governance. Directors also applauded the authorities’ intention to reduce the role of the state in the economy, including through increased stock issuance and sales of state shares.

Directors stressed that measures are needed to strengthen the financial sector. While the AMCs’ operations would strengthen bank balance sheets, they underscored the need to develop commercial lending practices so as to prevent the emergence of new nonperforming loans in the future. In this context, Directors emphasized the importance of limiting government guidance over lending decisions, strengthening internal controls within banks, retraining commercial bank staff, improving legal and accounting standards, and liberalizing interest rates. With a view to further developing the supervisory capacity of the People’s Bank of China and improving the prudential and regulatory framework, Directors urged the authorities to move quickly to implement international loan classification standards, followed by a firm timetable for the implementation of strengthened provisioning standards. They welcomed the agreement in the context of the WTO to extend full national treatment to foreign banks within 5 years, as this would spur reform and enhance competition in the banking system.

Directors commended the authorities’ current efforts to consolidate nonbank financial institutions, pointing to the weak financial position of smaller (particularly nonbank) financial institutions. Many Directors encouraged the authorities to participate as early as possible in the Financial Sector Assessment Program, with a view to identifying both the vulnerabilities in the financial system and the priorities for future development.

Directors noted that the stock market has an important role to play in reducing leverage in the economy, diversifying ownership, and improving corporate governance. They were encouraged by the authorities’ commitment to developing the stock market according to market principles and under the oversight of a strong supervisory and regulatory framework.

Directors welcomed the authorities’ ongoing efforts to protect those adversely affected by reforms, including by strengthening the social safety net, encouraging private sector development, developing rural industries, advancing housing reform, and improving governance. They noted that shifting responsibility for social services from the SOEs to the government would increase both the coverage of the safety net and assist SOEs in their restructuring. Directors also considered the authorities’ efforts to address regional disparities, including the campaign to “Develop the West,” to be timely, as China’s growth over the past two decades has been unevenly shared. Directors agreed that investments in infrastructure, training, and education in the interior provinces could help to narrow this disparity, but shared the authorities’ concern that new investments in the interior protect the already fragile environment.

Most Directors expressed concern about medium-term fiscal sustainability, particularly once account is taken of contingent liabilities in the financial sector, as well as necessary future outlays for social security, infrastructure, and the environment. Directors were concerned that the risks would intensify without strict efforts to control the budget deficit and to reduce the flow of new bad loans through the banks. Directors urged the authorities to lay the groundwork for fiscal consolidation in the context of a clear and transparent medium-term framework, with a focus on expenditure savings and further revenue mobilization. They also urged an early reevaluation of the fiscal federal system, and suggested that a more rules-based transfer mechanism might be necessary to provide sufficient inter-regional equalization transfers.

While welcoming the recent progress that has been made in improving the quality and coverage of data, Directors noted the need for further improvement in China’s economic statistics, which continue to suffer from important weaknesses in a number of areas. They emphasized the need to develop time-specific action plans to improve the quality of data on which economic decision making, as well as monitoring and surveillance, depend. Efforts in this regard would be facilitated by continued technical assistance. In addition, while Directors welcomed the recent improvements in data provision to the Fund—especially on the balance of payments and budgetary side—they stressed that further action is needed to permit effective surveillance during the year.

People’s Republic of China: Selected Economic and Financial Indicators

  1996 1997 1998 1999 2000
IMF Staff

  (Change in percent)
Domestic economy          
Real GDP 9.6 8.8 7.8 7.1 7.5
Consumer prices (period
8.3 2.8 -0.8 -1.4 0.5
  (In billions of U.S. dollars)
External economy          
Exports 151.1 182.7 183.5 194.7 223.9
Imports 131.5 136.4 136.9 158.5 183.9
Current account balance 7.2 36.7 29.3 15.7 17.1
Capital and financial account balance 1/ 40.0 21.0 -6.3 7.6 6.0
Of which: Foreign direct
investment, net
38.1 41.7 41.1 37.0 36.0
Gross official reserves 2/ 107.7 143.4 149.8 158.3 167.4
Current account balance
(in percent of GDP)
0.9 4.1 3.1 1.6 1.6
  (In percent of GDP)
Public finance 3/          
Overall budgetary balance -1.6 -1.8 -3.1 -4.1 -3.6
Revenue 11.2 12.1 13.0 14.2 14.2
12.8 13.9 16.1 18.3 17.8
  (Change in percent)
Money and interest rates          
Broad money (M2) 4/ 25.3 17.3 15.3 14.7 ...
Interest rate 5/ 7.5 5.7 3.8 2.3 ...

Sources: Chinese authorities and IMF staff estimates.

1/ Excluding errors and omissions.
2/ Includes gold, SDR holdings, and reserve position in the Fund.
3/ Central and local governments. Data include all expenditure financed by official external borrowing, interest payments on government debt, and unbudgeted expenditures in 1998-2000 related to the fiscal stimulus program.
4/ Banking survey.
5/ One-year time deposits, year-end.

1 Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country’s authorities. In this PIN, the main features of the Board’s discussion are described.


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