## 1. China’s Exit Strategy From COVID-19 ## Source details **Canonical URL:** [1. China’s Exit Strategy From COVID-19](https://www.imf.org/-/media/files/publications/cr/2021/english/1chnea2021001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2021/english/1chnea2021001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2021/english/1chnea2021001.pdf.json) --- ### COVID-19 outbreak, containment, and immediate economic impact - China was the first country to suffer a COVID-19 outbreak, which took the lives of more than 4,600 people. - Economic activity contracted by 6.8 percent (y/y) in the first quarter for the first time in more than 40 years. - Containment measures: extension of the national Lunar New Year holiday; travel restrictions; lockdown of Hubei province; intensive testing; effective contact tracing; localized mobility restrictions; targeted reopening prioritizing low-risk regions and essential sectors. - Digital technologies (big data and artificial intelligence) leveraged for contact tracing and managing travel and other restrictions. ### External environment and trade/technology tensions - Tensions with the U.S. escalated beyond trade to technology access and financial markets. - China and the U.S. remain committed to the “Phase 1” deal, but China’s purchases would need to accelerate to meet commitments (trade data for the first ten months suggest shortfall). - Other jurisdictions tightened rules on inward FDI; the European Union is considering whether foreign subsidies distort its internal market. - U.S. actions cited: tightened export restrictions to selected Chinese technology companies; law enabling sanctions on foreign financial institutions operating in Hong Kong SAR; steps to delist Chinese firms failing U.S. accounting standards; measures to force sales of Chinese firms to the U.S. ### Policy response — fiscal - Discretionary fiscal measures estimated at about 4.7 percent of GDP in 2020, centered on increased infrastructure investment (estimated boost of 2.2 percentage points to GDP growth). - With automatic stabilizers, augmented general government deficit projected to rise by 5.6 percentage points of GDP to 18.2 percent in 2020. - General budgetary deficit and debt projected to rise to 3.7 and 44.7 percent of GDP, respectively, in 2020. - Augmented debt expected to reach 92 percent of GDP. - National savings around 43 percent of GDP. ### Policy response — monetary and credit - PBC lowered 7- and 14-day short-term reverse repo rates by 30 basis points and the 1-year MLF rate by 30 basis points. - Non-interest instruments deployed: expanded re-lending facilities with guidance on lending rates; reduced targeted RRRs; increased bank lending targets; expanded policy bank credit support; subsidized local banks’ loan repayment moratoria; new zero-interest “funding-for-lending” scheme for micro- and small-sized enterprises; window guidance to steer credit to hard-hit sectors. - Total social financing (TSF) growth accelerated to 13.7 percent (y/y) as of October, up from 10.7 percent at end-2019. - Slow adjustment of deposit rates and capital shortages in smaller banks constrained some banks’ ability to provide new financing to the private sector. ### Recovery profile and composition - V-shaped recovery: real GDP grew by 3.2 percent in Q2 and by 4.9 percent (y/y) in Q3. - Recovery driven heavily by public support and investment: - Public investment increased significantly and was the main driver of domestic growth. - SOEs led the recovery in corporate investment; SOEs increased fixed-asset investment strongly in Q2, leading POEs. - Real estate investment returned to positive growth by summer; housing starts outpaced sales. - Private consumption recovered more slowly due to social distancing in person-to-person services; drop in household income growth; increased precautionary savings amid limited social safety net. - Official urban unemployment improved to 5.3 percent in October, down from 6.2 percent in February; new urban jobs through October remained about 15 percent below the same period in 2019. - Exports: merchandise exports increased by 0.5 percent (y/y, in USD) in the first 10 months of 2020 despite estimated volume decline of 3 percent; merchandise imports declined by 2.3 percent (y/y, in USD) while import volume increased by an estimated 4 percent. ### Inflation and output gap - Core CPI inflation 0.5 percent (y/y) in October. - Headline inflation declined to 0.5 percent in October, below the PBC’s target of 3.5 percent for this year. - Producer price inflation at -2.1 percent (y/y). - Output gap estimated at around -3½ percent of potential GDP on average for 2020. ### Structural considerations, reform progress, and risks - Reform progress: important progress in financial sector opening up; lagging progress on SOEs and competitive neutrality, contributing to lower productivity and growth. - Rebalancing concerns: - Credit-driven and investment-heavy recovery could reverse rebalancing progress from the past five years. - Public capital stock more than 150 percent of GDP—excluding SOEs—suggesting diminishing returns from further traditional infrastructure investment. - Environmental progress mixed: leadership in renewable power and EV deployment, improved air quality partly due to lockdowns, but coal-fired capacity began to expand again in 2019. - Financial and external vulnerabilities remain elevated despite regulatory strengthening. - Other risks: supply chain reliability concerns and tightening rules on inward FDI. --- ### Financial vulnerabilities and sectoral impacts ### Pandemic-induced financial vulnerabilities - Exceptional financial support measures helped avoid a credit crunch but: - Contributed to a further increase in already very high corporate debt. - Prolonged life of non-viable and low-productivity firms, including SOEs in capital-intensive, overcapacity sectors. - Reduced debt-servicing capacity of highly leveraged corporates and households, adding to banking vulnerabilities (masked temporarily by eased NPL recognition). - Rising leverage increased vulnerabilities in parts of asset management; implementation of asset management reform postponed by one year to end-2021. - These developments create significant financial risks going forward. ### Credit quality and banking sector pressures - Corporate debt expected to rise by about 10 percentage points to 127 percent of GDP in 2020 (after a prior decline). - Household debt expected to increase by 2 percentage points. - Reported NPLs and credit provisions increased by about 18 and 34 percent (y/y), respectively, for H1 while profits declined by about 9 percent. - Banks’ equity valuations at all-time lows despite elevated stock prices. - Small banks under pressure: elevated exposure to vulnerable corporate sectors and MSMEs; government intervened in three banks with severe solvency problems since mid-2019. - Official local government debt projected to reach 25 percent of GDP by end-2020; local governments authorized to inject RMB 200 billion into local banks funded with new debt. ### Property sector and developer risks - Property developers accounted for 12 percent of total corporate debt at end-2019 and have significant foreign currency debt via offshore USD bond issuance. - Funding strains in highly leveraged developers could trigger housing market correction, weigh on recovery, and impair bank balance sheets. ### Stress-test indication - PBC stress test (footnote): NPL ratio in 30 large- and medium-sized banks could increase from 1.5 percent in 2020Q1 to 4.9 and 5.5 percent by 2020Q4 and 2021Q4, respectively, under scenarios with economy growing by 1.6 and 7.8 percent in 2020 and 2021, respectively. --- ### Authorities’ perspectives and recovery assessment - Authorities view strong policy actions as mitigating the health crisis and supporting recovery; control of local outbreaks critical. - Fiscal support: transfers to local governments, cuts in taxes and fees, increased public investment—partly financed by additional local government bond issuance and central government special bonds. - Authorities consider non-interest monetary/financial measures (loan repayment moratoria, zero-interest funding-for-lending) effective for supporting vulnerable MSEs and employment. - Recovery described as swift but uneven: investment and exports main drivers; private consumption recovering slowly and began to pick up notably in August; travel, sports, and entertainment rebounded strongly during October national holiday. --- ### Outlook, projections, and balance of risks ### GDP and baseline projections - GDP projected to grow 1.9 percent in 2020 and 7.9 percent in 2021. - Baseline assumptions: - Normalization continues with private consumption and business investment gathering momentum. - Real estate investment expected to moderate partly due to planned prudential measures. - Fiscal policy broadly neutral; monetary policy supportive in 2021 though less than in 2020. - TSF growth slowing to 12.2 percent (y/y) by end-2021 from 13.7 percent in October 2020. - Sequential growth would slow from H2 2020 before recovering toward pre-pandemic trend in H2 2021. ### External position and currency - Current account surplus in 2019 was 1 percent of GDP (up from 0.2 percent in 2018). - Current account surplus projected to widen to 1.9 percent of GDP in 2020 before narrowing to below one percent in 2021. - RMB stronger in real effective terms and against the U.S. dollar (+3.9 and +3 percent as of October, compared to 2019 averages). - FX reserves up by $20 billion for the first ten months of 2020; FX intervention appears limited. - Preliminary assessment suggests broadly unchanged overall external position in 2020 versus 2019, with high uncertainty. ### Global spillovers - IMF G20 model simulation: China's fiscal stimulus in 2020 will boost global GDP by about 0.6 percentage points cumulatively in 2020 and 2021, of which around 0.15 percentage points due to outward spillovers; effects particularly large in Asia and benefit low-income African commodity exporters. ### Medium-term potential and output gap - Economy adjusting to “pandemic normal”; technology and digitalization aid adjustment in retail, food services, healthcare, education, entertainment. - Labor market scarring, imbalance toward lower-productivity public investment, workplace safety costs, and reallocation time likely to permanently lower potential GDP relative to pre-crisis path. - Significant negative output gap of around -1.8 percent of potential GDP expected in 2021 before gradually closing. - Core inflation expected to remain subdued; CPI inflation in 2021 expected below pre-crisis target of about 3 percent. ### Balance of risks and downside scenarios - Baseline assumes risks contained: pandemic lingers but does not halt recovery; no nationwide resurgence; gradual rollout of vaccines/therapies in 2021; external tensions do not escalate. - Key downside risks: - Faltering handoff from public to private demand (another large domestic outbreak; weak confidence; sudden tightening of financing conditions). - External risks: further deterioration in economic relations with the U.S.; binding limitations to China’s access to international technology frontier; restrictions on financial flows through Chinese institutions in Hong Kong SAR (Hong Kong SAR accounts for about one-third of Chinese corporates' total equity financing, two-thirds of offshore bond issuance, and 60 percent of inward and outward direct investment). - Climate change risks: more extreme weather events (floods); increases in lost outdoor working hours due to heat/humidity harming GDP growth; local air pollution weighing on labor productivity. --- ### Policy strategy: securing recovery and financial stability ### Overall strategic elements - Continue policy support to secure recovery; calibrate policy mix to strengthen private demand and address financial vulnerabilities. - Key elements: - Support private demand and rebalancing: shift fiscal policy from infrastructure to household support and social safety nets; keep monetary policy accommodative to bring inflation back to target and avoid excessive tightening. - Make policy support more effective: modernize monetary policy toward market-based interest rates; improve macro-fiscal framework; strengthen intergovernmental fiscal coordination. - Contain financial stability risk: replace exceptional measures with proactive efforts to address problem loans and strengthen regulatory/supervisory frameworks. ### Fiscal recommendations - Remain moderately expansionary in 2021 before turning to consolidation to preserve fiscal space. - Staff recommends moderate stimulus in 2021 somewhat above staff’s forecast to smooth transition; aim to keep headline augmented deficit unchanged. - Switch to consolidation starting in 2022: staff’s forecast assumes headline augmented deficit reduced from 18.2 percent of GDP in 2020 to about 13¾ percent of GDP by 2025. - Consolidation options: reduction in off-budget local government investment and tax reforms to broaden tax base. - Rebalance fiscal composition: shift from infrastructure investment toward household support and social safety nets to reduce household savings rate and support consumption. - Social safety net and tax reforms: - Expand unemployment insurance coverage significantly, particularly for migrant workers; consider continuing pandemic-related extensions beyond 2020 and simplify portability rules. - Complement with hiring subsidies and reskilling programs. - Increase targeted transfers to low-income households via means-tested or categorically targeted transfers; expand Dibao benefits and coverage. - Enhance public healthcare, especially primary care capacity. - Increase tax progressivity and efficiency: lower social security contribution rates and minimum contribution for low-paid workers; reduce tax-free threshold to broaden tax base; reduce inefficient production taxes and fully refund VAT excess credits; accelerate reforms to allocate state equity of SOEs to social security funds. - Footnote staff calculation: moderating fiscal support would require CAAPD increase by ¾ percentage points of potential GDP in 2021 compared to roughly unchanged CAAPD currently forecasted; all else equal this could lift 2021 GDP growth by about 0.3 percentage points. Consolidation would require CAAPD to decline annually by an average of ¾ percentage points over 2022-25. ### Monetary policy recommendations - Maintain accommodative stance until private demand strengthens and CPI inflation sustainably reaches target. - PBC should focus on conventional instruments (7-day reverse repo and 1-year MLF) and ensure short-term interbank rates remain near policy rates by providing liquidity injections or RRR cuts. - Phase out non-interest rate instruments (large re-lending facilities, lending targets) as recovery proceeds to avoid credit misallocation. - Current policy rates (footnote): 7-day reverse repo and 1-year MLF unchanged since May at 2.2 and 2.95 percent, respectively; short-term interbank rates rose by about 100 basis points during May-October. RRRs for large, medium, and small-sized banks are at 11, 9, and 6 percent, respectively. ### Exchange rate and capital flow management - Continue exchange rate flexibility; recent CFMs changes include reducing reserve requirement on FX forward to zero from 20 percent and phasing out counter-cyclical adjustment factor in daily trading band’s central parity formation. - Further liberalize portfolio flows for inflows and outflows to strengthen market role. - CFMs should not substitute for warranted macroeconomic adjustment; phase out CFMs over the medium term consistent with greater exchange rate flexibility. - Publishing information on FX intervention would improve transparency and credibility. ### Urgent steps to contain financial stability risks - Phase out exceptional measures as recovery takes hold; gradually remove relaxed NPL recognition standards and repayment moratoria. - Require banks to disclose loan reclassification and restructuring; adopt proposed regulation to strengthen NPL recognition by extending scope of covered financial assets and expanding classification of nonperforming assets. - Strengthen regulatory and supervisory frameworks: - Amend Central Bank Law to strengthen macroprudential framework and coordinate supervision of systemically important institutions. - Strengthen regulations for online lending and financial holding companies. - Implement planned asset management reform without delay; improve supervisory capacity to monitor system-wide risks; strengthen prudential policies for governance and related-party exposures. - Prudential measures targeting excessive growth in developers’ interest-bearing liabilities can help contain real estate macro-financial risks. - Increase equity financing use and curb excessive speculation in small-cap stocks by strengthening/expanding registration-based IPO system. - Continue AML/CFT improvements: increase transparency of beneficial owners; implement UN-based targeted financial sanctions requirements; improve customer due diligence and supervision of politically exposed persons. --- ### Banking sector restructuring and corporate insolvency ### Banking sector objectives and measures - Objective: Clean up weak banks while addressing moral hazard as exceptional support is phased out. - Introduce aspects of a bank resolution framework in the Commercial Banking Law. - Ensure adequate capital and liquidity buffers; require banks unable to meet requirements to submit credible recovery plans. - Prioritize common equity (CET1) in bank capital: - Promptly address low CET1 in small banks; recapitalization could be complemented by tax incentives (“Allowance for Corporate Equity”) and governance reforms. - Caution against reliance on perpetual bonds or other cross-bank capital that increase interconnectedness. - Establish a nationwide bank resolution regime in line with international standards: protect insured depositors up to coverage limit, preserve critical functions, transfer good assets to bridge banks, impose losses on shareholders/creditors per hierarchy. - Establish a temporary resolution fund (fiscally backed) to complement deposit insurance and support orderly exit of non-viable banks, with safeguards to minimize moral hazard and a mechanism to recover losses from the industry over time. - Use public funds for recapitalization only as last resort, subject to strict conditions and restructuring requirements. ### Corporate restructuring and SME support - Gradually replace corporate support with policies facilitating corporate restructuring and reallocation to viable firms. - Market-based corporate restructuring framework: triage insolvent firms, loss recognition, burden sharing; improve insolvency and debt enforcement frameworks. - Public credit guarantees could refinance working capital of viable firms and improve credit supply for POEs. - SME financing support: fiscal funding for national credit guarantee fund or SME loan securitization; example: grants in return for temporarily higher future corporate tax rate. - Facilitate access to risk capital by eliminating tax bias against equity and simplifying startup regulations. ### Personal insolvency regime - Establish a personal insolvency regime to address over-indebtedness of small entrepreneurs and households, facilitating their return to the economy if carefully designed to minimize moral hazard. --- ### Modernizing policy frameworks, fintech, and e-CNY ### Monetary and macro-fiscal modernization - Modernize monetary policy to strengthen interest-rate transmission: - LPR rebenchmarked on one-year MLF; link existing/new loan rates to LPR. - Phase out interest rate guidance for deposits and inclusive lending to ease distortions. - Develop bond and FX derivatives markets to increase transmission to longer-term yields and facilitate flexible exchange rate with hedging instruments. - Establish a medium-term macro-fiscal framework including fiscal targets, top-down forecasting, bottom-up expenditure forecasting, and strategic budgeting; publish general government operations reports monthly. - Strengthen macro-fiscal coordination (fiscal policy unit in MOF) and enhance transparency: publish general government accounts and balance sheets; provide information on quasi-fiscal operations; prepare fiscal risk statement. ### Digital delivery, Fintech, and e-CNY - Use digital technologies to improve delivery of government support (e.g., RMB 60 billion consumption vouchers distributed through Fintech platforms by end-June). - Fintech can better target small- and micro-sized borrowers using behavioral big data; strengthen regulation to address fintech risks. - PBC’s e-CNY being tested across regions/platforms: - Potential benefits: promote financial inclusion, payment efficiency, strengthen monetary policy transmission, targeted fiscal delivery, increase public finance transparency. - Risks: operational disruptions and cyberattacks need careful monitoring. - Authorities view LPR reform as strengthening policy transmission; see benchmark deposit rate as preventing disorderly competition for deposits; emphasize international coordination before any cross-border use of e-CNY. --- ### Debt dynamics, fiscal scenarios, and DSA highlights ### Key fiscal assumptions and scenarios - Real GDP growth path: "7.9 percent in 2021 from 1.9 percent in 2020 followed by a gradual tapering to a 5.2 percent growth rate in 2025." - Average GDP deflator growth about 2 percent over projection period. - Effective interest rate for central and local government bonds projected to decline to 2.2 percent in 2025; off-budget borrowing rates about 3 percent. - Staff assumption: "all maturing debt will be rolled over." - General budgetary (official) scenario: on-budget spending, off-budget public investment sharply reduced; primary deficit (excluding land sales) increases to 13.8 percent of GDP in 2020 from 8.4 percent in 2019, then declines to 9.3 percent in 2025. - Special purpose local bond quota increased to RMB 3,750 billion in 2020 from RMB 2,150 billion in 2019 (additional 1.6 percent of GDP). - Special central government bond for pandemic control: RMB 1,000 billion (1 percent of GDP). - Augmented scenario: off-budget local government spending (including interest) held constant at 6.3 percent of GDP; augmented primary deficit projected to increase from 12.6 percent of GDP in 2019 to 17.8 percent in 2020, then decline to 13.4 percent in 2025. - Proceeds from net land sales and asset drawdowns in 2020 estimated at 7.1 percent of GDP; asset-based financing peaks in 2022 and then declines. ### Debt projections and stress tests (selected figures preserved) - Under general budgetary coverage: government debt increases to 54 percent of GDP in 2025 from 38 percent in 2019. - Under augmented coverage: augmented debt rises to 113 percent of GDP in 2025 from 81 percent in 2019. - Debt-stabilizing augmented primary balance estimated at -4.4 percent of GDP in medium term, 9 percentage points of GDP higher than projected 2025 level. - Stress-test outcomes: - Budgetary government debt approaches 80 percent of GDP at end of projection horizon in most standard stress tests; approaches 100 percent under contingent liability shock. - Augmented debt approaches about 140 percent of GDP or more under various stress tests. - Contingent liability shock illustration: assumes 10 percent of non-government banking system assets turn into government liabilities (non-government banking system assets about 220 percent of GDP in 2016) and real GDP growth in 2019–2020 2–2.5 percent lower. ### Policy implications - Baseline manageable under narrow coverage if fiscal adjustment implemented (annual CAAPD adjustment ~0.75 percentage points of potential GDP from 2022-25). - Critical dependence on public investment and off-budget liabilities: if off-budget liabilities persist, broad-coverage scenario is better guide for policy. - Preserve public debt headroom to absorb potential realization of contingent liabilities without market strain. --- ### Rebalancing, structural reforms, and green transition ### Rebalancing priorities and indicators - External rebalancing: CA surplus expected to temporarily widen to 1.9 percent of GDP in 2020 then trend down; staff CA gap midpoint 1.0 percent of GDP. - Internal rebalancing: private consumption share low (36.2 percent in latest year reported); share of investment high (43.1 percent). - Productivity gaps: average sectoral productivity about one third of global frontier; business services productivity at 17 percent of frontier; SOEs about 20 percent less productive than POEs as of 2019. ### Key reform recommendations - Simultaneous implementation of reforms to maximize job-rich, balanced recovery: - Further opening of domestic markets, especially services. - Strengthening social safety nets. - SOE reform ensuring competitive neutrality. - Promoting green investment. - Strengthen social safety nets and hukou and land reforms to improve labor mobility and adjustment: preserve migrant land ownership rights; improve rural land market efficiency; increase public services and social spending. - Market-opening and SOE reforms: - Open non-strategic sectors to private firms; remove regional regulatory barriers; remove implicit guarantees for SOEs and LGFVs; allow more defaults of SOE and LGFV bonds if market forces warrant. - Staff analysis: closing productivity gaps between SOEs and POEs across sectors could raise output by around 4 percent over the medium to long term. - Green investment and climate policy: - Pursue public investment in climate-resilient infrastructure and lower-carbon activities to support jobs and resilience. - Implement national emission trading system for power sector as scheduled and strengthen with stricter efficiency standards and rising carbon prices. - President Xi’s announcement: strive for CO2 emissions to peak before 2030 and achieve carbon neutrality by 2060. - Staff simulations: carbon price currently RMB 34 (about US$5) across eight pilots needs to grow between 5 to 7 percent annually to achieve 80 percent CO2 emission reduction by 2050. - Use majority of carbon revenues to fund social safety nets and cuts in distortive taxes, done equitably. ### International role and cooperation - China can aid global crisis response by ensuring rapid production and equitable distribution of COVID-19 vaccines. - Authorities’ participation in G20 efforts (DSSI and common framework) is welcome; common framework expected to facilitate debt resolution with fair burden sharing. - Strengthen external lending frameworks with better debt sustainability monitoring and transparency. - Support a more open, stable, rules-based international trade system; continue efforts toward WTO Government Procurement Agreement accession and RCEP implementation. --- ### Staff appraisal, risks, and recommended policy mix (summary) - Staff assessment: recovery underway but unbalanced, reliant on public support; private consumption lagging; pandemic exacerbated inequality and financial vulnerabilities. - Structural reform progress mixed: hukou reforms and financial opening advanced; real-sector reforms (SOEs, competitive neutrality) slower. - Balance of risks: still on the downside; upside if vaccines/therapies widely available sooner. - Recommended 2021 policy mix: - Macro policy moderately expansionary in 2021, reoriented toward balanced growth. - Fiscal stance: moderately expansionary, shifting from infrastructure spending toward social safety nets and green investment. - Monetary policy: remain accommodative given low inflation; phase out distortionary measures (lending targets, lending rate guidance) as recovery takes hold. - Maintain exchange rate flexibility to facilitate adjustment to new external environment. _Italic: Source — 1chnea2021001 (IMF staff report excerpts)._ ### 1. China’s Exit Strategy From COVID-19 _________________________________________________________ 37 ### 1. China’s Exit Strategy From COVID-19 ### COVID-19 outbreak, containment, and immediate economic impact - China was the first country to suffer a COVID-19 outbreak, which took the lives of more than 4,600 people. - Economic activity contracted by 6.8 percent (y/y) in the first quarter for the first time in more than 40 years. - Containment measures included extension of the national Lunar New Year holiday, travel restrictions, lockdown of Hubei province, intensive testing, effective contact tracing, localized mobility restrictions, and targeted reopening that prioritized low-risk regions and essential sectors. - Digital technologies such as big data and artificial intelligence were leveraged to facilitate contact tracing and, where still necessary, travel and other restrictions. ### External environment and trade/technology tensions - Tensions with the U.S. have escalated beyond trade to technology access and financial markets. - China and the U.S. remain committed to the “Phase 1” deal, but trade data for the first ten months of the year suggest China’s purchases of goods would have to accelerate significantly to meet the purchase commitments. - Other jurisdictions tightened rules on inward foreign direct investment (FDI); the European Union is considering whether foreign subsidies distort its internal market. - The U.S. actions cited include tightened export restrictions to selected Chinese technology companies, a law that can lead to sanctions on foreign financial institutions operating in Hong Kong SAR, steps to delist Chinese firms from U.S. stock exchanges that fail to comply with U.S. accounting standards, and measures to force sales of Chinese firms to the U.S. ### Policy response—fiscal - Staff estimates that discretionary fiscal measures amount to about 4.7 percent of GDP in 2020, centered on an increase in infrastructure investment, providing an estimated boost of 2.2 percentage points to GDP growth. - With automatic stabilizers, the augmented general government deficit is projected to rise by 5.6 percentage points of GDP to 18.2 percent in 2020. - The general budgetary deficit and debt would rise to 3.7 and 44.7 percent of GDP, respectively, in 2020. - Augmented debt is expected to reach 92 percent of GDP. - National savings are around 43 percent of GDP. ### Policy response—monetary and credit - The People’s Bank of China (PBC) lowered various policy rates, notably the 7- and 14-day short-term reverse repo rates by 30 basis points and the 1-year medium-term lending facility (MLF) rate by 30 basis points. - The PBC and authorities deployed non-interest rate instruments: expanded re-lending facilities with guidance on lending rates; reduced targeted reserve requirement ratios (RRRs); increased bank lending targets; expanded credit support by policy banks; subsidized local banks’ loan repayment moratoria; introduced a new zero-interest “funding-for-lending” scheme for uncollateralized lending to micro- and small-sized enterprises; and used window guidance to steer credit to hard-hit sectors. - Total social financing (TSF) growth accelerated to 13.7 percent (y/y) as of October, up from 10.7 percent at end-2019. - Slow adjustment of deposit rates and capital shortages in smaller banks constrained some banks’ ability to provide new financing to the private sector. ### Recovery profile and composition - The economy experienced a V-shaped recovery: real GDP grew by 3.2 percent in the second quarter and by 4.9 percent (y/y) in the third quarter. - The recovery has been driven heavily by public support and investment: - Public investment increased significantly and was the main driver of domestic growth. - Public enterprises (SOEs) led the recovery in corporate investment; SOEs increased fixed-asset investment strongly in the second quarter, leading the recent investment recovery by privately-owned enterprises (POEs). - Real estate investment returned to positive growth by the summer, with housing starts outpacing sales. - Private consumption recovered more slowly due to: - Continued social distancing in person-to-person services. - A significant drop in the growth of average household income amid still-weak labor market conditions. - Increased precautionary savings, in part due to a still very limited social safety net. - Official survey-based urban unemployment improved to 5.3 percent in October, down from 6.2 percent in February, but this likely underestimates job losses among migrant workers; new urban jobs created through October remained about 15 percent below new urban job creation during the same period in 2019. - Exports held up: merchandise exports increased by 0.5 percent (y/y, in USD) in the first 10 months of 2020, despite an estimated decline in volume of 3 percent; merchandise imports declined by 2.3 percent (y/y, in USD) while import volume increased by an estimated 4 percent. ### Inflation and output gap - Core CPI inflation was 0.5 percent (y/y) in October. - Headline inflation declined to 0.5 percent in October, below the PBC’s target of 3.5 percent for this year. - Producer price inflation remained in deflationary territory at -2.1 percent (y/y). - The output gap was estimated at around -3½ percent of potential GDP on average for 2020. ### Structural considerations, reform progress, and risks - Reform progress: - Important progress in financial sector opening up. - Lagging progress on state-owned enterprises (SOEs) and competitive neutrality, contributing to lower productivity and growth. - Rebalancing concerns: - The credit-driven and investment-heavy recovery could reverse recent progress on rebalancing achieved over the last five years. - China’s public capital stock is more than 150 percent of GDP—excluding SOEs—already very large compared with emerging and advanced economies, suggesting diminishing returns from further traditional infrastructure investment. - Environmental and “greener” growth: - Mixed progress: leadership in renewable power and electric vehicle deployment and improved air quality (partly due to lockdowns), but coal-fired energy capacity began to expand again in 2019 as new large-scale plants opened faster than retirements of old plants. - Financial and external vulnerabilities: - Financial vulnerabilities remain elevated despite regulatory strengthening. - The current account surplus is expected to increase this year, largely reflecting a surge in pandemic-related exports, declines in commodity prices, and other effects of the global crisis. - Other risk factors: - Global concerns about supply chain reliability and policies bringing production home or reducing reliance on any single trading partner. - Tightening of rules on inward FDI in various jurisdictions. *Source: 1chnea2021001 - 1. China’s Exit Strategy From COVID-19* ### 10. The pandemic has added to the many interconnected financial vulnerabilities ### 10. The pandemic has added to the many interconnected financial vulnerabilities ### Financial vulnerabilities and sectoral impacts - Exceptional financial support measures helped avoid a potential credit crunch but: - Contributed to a further increase in already very high corporate debt. - Prolonged the economic life of non-viable and low-productivity firms, including SOEs, particularly in capital-intensive sectors with overcapacity. - Reduced the debt-servicing capacity of highly leveraged corporates and households, adding to banking sector vulnerabilities (temporarily masked by eased NPL recognition standards). - Rising leverage added vulnerabilities in parts of the asset management sector; implementation of the asset management reform was postponed by one year to end-2021. - These developments create significant financial risks going forward. ### Structural reform progress (mixed) - Financial sector opening: - Negative lists for foreign investment access were shortened nationwide and in Pilot Free Trade Zones. - Foreign ownership caps on securities, fund management, futures and life insurance companies were removed. - A network clearing license for RMB transactions was approved for a foreign company. - Restrictions on investment quota of foreign institutional investors were removed. - Foreign ownership caps on the commercial vehicle industry were lifted and ownership limits on some agricultural industries were raised. - New overseas investment quotas for domestic institutional investors were granted. - Labor market reforms: - Share of migrant workers in aggregate employment is rising as reforms made it easier for migrants to obtain hukou in many large cities. - Migrant access to public services remains limited, especially to close-by public schools. - Migrant workers who settle in urban areas may risk losing rural land rights and face inadequate compensation due to lack of efficient rural land markets. - These factors lead many migrant workers to be reluctant to acquire urban residency, depriving them of access to urban social safety nets. - Competition and innovation: - Patent law amended to strengthen intellectual property protection. - Government stepped up efforts to regulate monopolistic practices and promote fair competition, including in online business platforms. - Slow progress in real-sector reform, especially SOEs and competitive neutrality: - SOE deleveraging progress reversed; leverage ratios in percent of GDP increased during the crisis while profitability declined, in part reflecting SOE contributions to economic stabilization efforts. - Little tangible progress toward much-needed SOE reform. - Listed SOEs continue to enjoy privileged access to credit and other resources despite significantly lower productivity than POEs in the same sector—about 20 percent lower as of 2019, measured by total factor revenue productivity (value-added per unit of capital and labor), driven largely by low capital productivity. - Given the size of the SOE sector, this imposes a significant cost to aggregate total factor productivity. ### Inequality and social protection challenges - Income and wealth inequality: - Income inequality has increased sharply; China is more unequal than other countries in the region. - Household savings are high but heavily concentrated: 2019 PBC survey shows the top 10 percent of households hold 48 and 58 percent of total and financial assets, respectively, compared to 9 and 5 percent by the bottom 40 percent of households. - Income and wealth inequalities have likely widened during the crisis as low-income households faced job losses and wage cuts and have less flexibility to work from home. - This dynamic likely contributes to the sluggish recovery in private consumption since low-income households have a higher propensity to consume. - Gender gaps: - Despite structural shift toward service employment, gender gaps in labor force participation and wages have increased. - Social safety nets and public spending: - Coverage of the unemployment insurance system: coverage for only one in three people in the urban labor force and for fewer than one in five migrant workers; even thinner coverage in rural areas. - In the first quarter, only 10 percent of 23 million unemployed workers received benefits. - Spending on social assistance and public health care is low: - Even after a budgeted increase of RMB 147 billion (0.14 percent of GDP) on the national public health emergency management system, aggregate welfare and health expenditures are only about 3.5 percent of GDP, much less than the average of more than 6 percent of GDP for other emerging market economies. - Tax progressivity and structure: - VAT and other taxes on goods and services account for about 65 percent of tax revenues in China, compared to about 50 percent in emerging market economies. - Revenues from personal income tax (PIT) contribute only around 5 percent of total revenues, about half the emerging market average of 10 percent. - Labor tax wedge for the lowest earners is very high due to a high minimum social security contribution; the 2018 PIT reform raised the taxable income threshold and introduced wide deductions, narrowing the tax base and reducing progressivity. - Absence of a recurrent property tax contributes to lack of progressivity. ### Local government fiscal imbalances - Local governments have a higher share of expenditure responsibilities than in many countries and already faced large and growing funding gaps between own revenue and expenditure before the pandemic; these were filled through transfers from the central government and other financing sources. - The crisis added funding pressures through weaker economic activity and temporary tax and fee relief measures, constraining many local governments' ability to cope and limiting the effectiveness of the aggregate fiscal response. ### Authorities’ views - Authorities concurred strong policy actions mitigated the health crisis and supported the recovery, with successful control of local outbreaks critical. - Fiscal support included transfers to local governments, cuts in taxes and fees, and increased public investment—partly financed by additional local governments' bond issuance and the first issuance of central government special bonds since the 2009 global financial crisis. - Authorities calculated overall fiscal support as greater than staff’s estimate of discretionary fiscal support. - They saw non-interest rate monetary and financial measures—PBC-subsidized loan repayment moratoria and zero-interest funding-for-lending scheme for local banks—as particularly effective in supporting vulnerable MSEs and employment while avoiding potential policy leakages. - Recovery described as swift but somewhat uneven: growth gaining speed since late first quarter; investment and exports main drivers with positive year-on-year growth over the first three quarters; private consumption recovering slowly and began to pick up notably in August with the first positive year-on-year growth; travel, sports, and entertainment rebounded strongly during the national holiday in October. ### Outlook and projections - GDP projections: - GDP is projected to grow 1.9 percent in 2020 and 7.9 percent in 2021. - Baseline assumptions: - Normalization of economic activity continues with private consumption and business investment gradually gathering momentum and continued recovery in income. - Real estate investment expected to moderate going forward, partly due to planned introduction of prudential measures. - Global recovery lifts external demand and composition of exports broadens beyond pandemic-related goods. - Fiscal policy expected to remain broadly neutral while monetary policy remains supportive in 2021 though less than in 2020. - TSF growth slowing to 12.2 percent (y/y) by end-2021 from 13.7 percent in October 2020. - Sequential growth would slow from the second half of 2020 before recovering toward its pre-pandemic trend in the second half of 2021. - External position and current account: - Current account surplus in 2019 was 1 percent of GDP (up from 0.2 percent in 2018). - Current account surplus projected to widen to 1.9 percent of GDP in 2020 before narrowing to below one percent in 2021. - Recent currency and reserves developments: - RMB stronger in real effective terms and against the U.S. dollar (+3.9 and +3 percent as of October, compared to their 2019 averages). - FX reserves up by $20 billion for the first ten months of 2020 while FX intervention appears limited. - On a preliminary basis and adjusting for transitory factors, developments suggest a broadly unchanged overall external position in 2020 compared to 2019, but assessment is highly uncertain given lack of full-year data for 2020 and the COVID-19 crisis. - Spillovers: - IMF G20 model simulation suggests China's fiscal stimulus in 2020 will boost global GDP by about 0.6 percentage points cumulatively in 2020 and 2021, of which around one-quarter (0.15 percentage points) is due to outward spillovers; effects particularly large in Asia and also benefit low-income African commodity exporters. - Medium-term potential and output gap: - Economy adjusting to “pandemic normal”; technology and digitalization help adjustment in retail, food services, healthcare, education, and entertainment. - Labor market scarring, imbalance toward lower productivity public investment, costs of workplace safety and hygiene, and reallocation time likely to have a permanent level effect on potential GDP, leaving potential below its pre-crisis path. - Medium- and long-term potential growth rates will continue to slow due to population aging and slowing aggregate productivity growth. - A significant negative output gap of around -1.8 percent of potential GDP is expected in 2021 before closing gradually over the medium term. - Core inflation expected to remain subdued; CPI inflation in 2021 expected below the pre-crisis target of about 3 percent. ### Balance of risks and downside scenarios - Baseline assumes risks remain contained: pandemic lingers but does not hold back recovery; no resurgence of nationwide outbreaks and gradual rollout of effective vaccines and therapies throughout 2021; external tensions do not escalate further. - Key downside risks include: - Near-term faltering of the handoff from public to private demand—examples and overlapping scenarios: - Another large domestic outbreak leads to re-imposition of large-scale mobility restrictions. - Consumer and business confidence fails to improve given lingering pandemic threat, weak labor market conditions, and perception of stalling SOE and other reforms limiting private business opportunities. - Sudden tightening of financing conditions—e.g., disorderly exit from exceptional financial support—which combined with high private leverage would further depress household and corporate spending. - External environment becoming less supportive: - Further deterioration in economic relations with the U.S. leading to further increases in bilateral tariffs and other obstacles to trade. - Binding limitations to China’s access to the international technology frontier (through new trade, FDI, or other restrictions) could lead to technology decoupling and lower productivity growth. - Restrictions on financial flows through Chinese financial institutions operating in Hong Kong SAR could adversely affect China; Hong Kong SAR accounts for about one-third of Chinese corporates' total equity financing, two-thirds of offshore bond issuance, and 60 percent of inward and outward direct investment. - Climate change risks: - More extreme weather events (e.g., floods) could increase in frequency and severity due to changes in precipitation and temperature. - If emissions continue to rise at current rates, the average share of outdoor working hours lost each year to extreme heat and humidity would increase, negatively affecting GDP growth. - Local air pollution, though moderating in recent years, has detrimental effects on human health and weighs on GDP growth through negative impacts on labor productivity. *Source: 1chnea2021001 - 10. The pandemic has added to the many interconnected financial vulnerabilities* ### 22. In addition, financial stability risks have increased during the crisis. This reflects ### 22. In addition, financial stability risks have increased during the crisis. ### Financial stability risks and vulnerabilities - Rising financial vulnerabilities across nonfinancial corporate, housing, and banking sectors and delay of further progress on financial de-risking. - Private sector debt: - Corporate debt is expected to rise by about 10 percentage points to 127 percent of GDP in 2020, following a decline of roughly the same magnitude over the last three years. - Household debt is expected to increase by a more moderate 2 percentage points. - Credit quality deterioration: - Reported NPLs and credit provisions of Chinese banks increased by about 18 and 34 percent (y/y), respectively, for the first half of this year while profits declined by about 9 percent. - Banks’ equity valuations have reached all-time lows despite otherwise elevated stock prices. - Concerns pronounced for lending to consumers and small businesses once financial support measures expire. - Rising defaults among some financially weaker SOEs could add pressure on bank balance sheets. - Small banks: - Pressure on small banks intensified, potentially affecting lending to corporates they serve. - Weaknesses among small banks evident before the crisis; funding conditions were tightening with government intervening in three banks that faced severe solvency problems since mid-2019. - Small banks have elevated exposure to vulnerable corporate sectors and MSMEs, raising the risk of a downward spiral of reduced lending to weak non-financial corporates. - Local government-financial sector linkages: - Official local government debt projected to reach 25 percent of GDP by end-2020 while revenues are slowing. - Debt burdens affecting financing conditions for local firms and LGFVs with weak debt-servicing capacity; reliance on local-authority backstops. - Credit spreads for firms in provinces with financially weaker local governments have widened notably relative to other provinces. - Local governments authorized to inject RMB 200 billion into local banks funded with new debt, deepening financial linkages between local governments, banks, and corporations. - Property sector risks: - Property developers accounted for 12 percent of total corporate debt at end-2019 and have significant foreign currency debt through offshore USD bond issuance. - Funding strains in highly leveraged developers could lead to further housing market correction, weighing on recovery and impairing banks’ balance sheets. - Quantitative stress indication (PBC’s stress test, footnote): - NPL ratio in 30 large- and medium-sized banks could increase from 1.5 percent in 2020Q1 to 4.9 and 5.5 percent by 2020Q4 and 2021Q4, respectively, under scenarios with economy growing by 1.6 and 7.8 percent in 2020 and 2021, respectively. ### Authorities’ views - Broad agreement on growth outlook: gradual pickup in private consumption as confidence and employment strengthen; private investment expands strongly; output gap expected to close in 2021 supporting underlying inflation while headline inflation remains low driven by food prices. - Widening current account in 2020 seen as affected by temporary factors: domestic epidemic prevention results, resumption of economic activities, strong external demand for pandemic-related goods, and reduction in outbound travel. - External position expected to remain broadly in line with medium-term fundamentals and desirable policies in 2021. - Authorities mostly concerned with external risks; pandemic viewed as most prominent risk to 2021 growth and need for global cooperation emphasized. - Views on financial risks: - Expected leverage to stabilize in 2021 after temporary increase in 2020. - Financial risks seen as manageable despite modest increase in nonperforming assets once exceptional support measures are phased out. - Agreement on need to address excessive real estate company debt and proactive approach to curb developer-related risks. ### Policies to secure the recovery and return to balanced growth — strategic elements - Overall strategy: continued policy support to secure recovery, calibrate policy mix to strengthen private demand and address financial vulnerabilities. - Key elements: - Supporting private demand and rebalancing: shift fiscal policy from infrastructure spending towards household support and strengthen social safety nets; monetary policy stance remain accommodative to bring inflation back to target sustainably and prevent excessive tightening of financial conditions. - Making policy support more effective: modernize monetary policy framework toward market-based interest rates; improve macro-fiscal framework; strengthen intergovernmental fiscal coordination. - Containing financial stability risk: replace exceptional financial and monetary measures with proactive efforts to address problem loans and manage vulnerabilities by strengthening regulatory and supervisory frameworks. ### A. Supporting growth and ensuring financial stability — recommendations - Fiscal policy stance: - Remain moderately expansionary in 2021 before turning to consolidation to preserve fiscal space. - Recommend moderate stimulus in 2021 somewhat above staff’s current forecast to smooth transition from 2020 support; aim to keep headline augmented deficit unchanged. - Staff assessment: China has some fiscal space; moderate support could provide insurance against downside risks and help close output gap faster. - Switch to consolidation starting in 2022: staff’s forecast assumes headline augmented deficit reduced from 18.2 percent of GDP in 2020 to about 13¾ percent of GDP by 2025. - Consolidation options: reduction in off-budget local government investment and tax reforms to broaden tax base. - Rebalance fiscal composition: - Shift from infrastructure investment toward household support and social safety nets to reduce household savings rate and support private consumption. - Social safety net and tax reforms: - Expand unemployment insurance coverage significantly, particularly for migrant workers; consider continuing pandemic-related extensions beyond 2020 and simplify portability rules. - Complement with hiring subsidies and reskilling programs. - Increase targeted transfers to low-income households via means-tested or categorically targeted transfers for unemployed without insurance; expand Dibao program benefits and coverage especially in lower-income regions. - Enhance public healthcare, especially primary care capacity. - Increase progressivity and efficiency of tax system: - Lower social security contribution rates and minimum contribution for low-paid workers to reduce very high effective tax rates for lowest earners. - Reduce tax-free threshold to broaden tax base. - Reduce inefficient production taxes (e.g., fees on businesses) and fully refund VAT excess credits. - Accelerate reforms to allocate state equity of SOEs to social security funds to address shortfalls in some local social security funds. - Footnote staff calculation: moderating fiscal support would require CAAPD increase by ¾ percentage points of potential GDP in 2021 compared to roughly unchanged CAAPD currently forecasted; all else equal this could lift 2021 GDP growth by about 0.3 percentage points. Consolidation would require CAAPD to decline annually by an average of ¾ percentage points over 2022-25. - Monetary policy: - Maintain accommodative stance until private demand strengthens and CPI inflation sustainably reaches target. - PBC should focus on conventional interest rate instruments (7-day reverse repo and 1-year MLF) and ensure short-term interbank rates remain near policy rate levels by providing sufficient liquidity injections or RRR cuts. - Use of non-interest rate instruments (large re-lending facilities, lending targets) helped during market stress but should be phased out as recovery proceeds to avoid credit misallocation and mispricing. - Current policy rates (footnote): 7-day reverse repo and 1-year MLF remain unchanged since May at 2.2 and 2.95 percent, respectively; short-term interbank rates rose by about 100 basis points during May-October. RRRs for large, medium, and small-sized banks are at 11, 9, and 6 percent, respectively. - Exchange rate and CFMs: - Continue exchange rate flexibility; recent measures include reducing reserve requirement on FX forward (a CFM) to zero from 20 percent and phasing out counter-cyclical adjustment factor in daily trading band’s central parity formation. - Further liberalize portfolio flows for inflows and outflows to strengthen market role in determining exchange rate. - CFMs should not substitute for warranted macroeconomic adjustment and exchange rate flexibility; phase out CFMs over medium term consistent with greater exchange rate flexibility and supporting reforms. - Publishing information on FX intervention would improve transparency, credibility, and communication. - Urgent steps to contain financial stability risks: - Phase out exceptional financial support measures as recovery takes hold; gradually remove relaxed NPL recognition standards and repayment moratoria to avoid moral hazard and preserve bank transparency and governance. - Require banks to disclose how loans are reclassified and restructured; adopt proposed regulation to strengthen NPL recognition by extending scope of covered financial assets and expanding classification of nonperforming assets. - Strengthen regulatory and supervisory frameworks: - Amend Central Bank Law to strengthen macroprudential framework and coordinate supervision of systemically important financial institutions. - Strengthen regulations for online lending and financial holding companies amid rapid fintech-driven shifts. - Implement planned asset management reform without delay; improve supervisory capacity to monitor system-wide risks; strengthen prudential policies to address governance and related-party exposure risks. - Recently announced prudential measures targeting excessive growth in developers’ interest-bearing liabilities can help contain macro-financial risks from real estate market. - Increase equity financing use and curb excessive speculation in small-cap stocks, including by strengthening and expanding registration-based IPO system. - Continue efforts to address AML/CFT framework weaknesses: - FATF noted progress in technical compliance (first enhanced follow-up report, October 2020) but further efforts needed. - Increase transparency of beneficial owners of legal entities, introduce comprehensive legal framework to implement UN-based targeted financial sanctions requirements, and improve financial sector supervision and preventive measures (e.g., customer due diligence and politically exposed persons). *Source: PEOPLE’S REPUBLIC OF CHINA, INTERNATIONAL MONETARY FUND (excerpts).* ### 32. A comprehensive bank restructuring approach is needed to strengthen the banking ### 32. A comprehensive bank restructuring approach is needed to strengthen the banking ### Banking sector restructuring: objectives and key measures - Objective: Clean up weak banks while addressing moral hazard as exceptional policy support is phased out. - Introduce aspects of a bank resolution framework in the Commercial Banking Law (noted as a welcome step). - Ensure adequate capital and liquidity buffers: - Supervisors should ensure banks properly recognize both legacy and emerging problem loans after the expiration of the repayment moratoria and hold adequate capital and liquidity buffers. - Banks that cannot meet these requirements should be required to submit credible recovery plans. - Efforts to improve bank governance and risk management would help enable banks to raise capital from markets. - Prioritize common equity in bank capital: - Authorities should promptly address low levels of Common Equity Tier 1 (CET1) capital in small banks, which are constraining their capacity to provide credit. - Recapitalization could be complemented by providing tax incentives (“Allowance for Corporate Equity”) and addressing governance constraints that discourage banks from issuing equity below book value. - This approach is preferable to plans emphasizing other types of capital that absorb losses only in severe stress scenarios. - Concerns about alternative measures: - Planned use of proceeds of local government bond issuance for bank recapitalization may be precluded from directly investing in CET1. - Increasing bank capital via perpetual bonds typically held by institutional investors would increase financial interconnectedness and contagion risk during periods of stress. - Similar concerns apply to other forms of cross-bank capital support such as forced mergers. - Establish a nationwide bank resolution regime in line with international standards: - Enhance authorities’ capacity to require recognition of losses and quickly wind down failing banks. - Protect insured depositors up to the coverage limit using deposit insurance. - Preserve banks’ critical functions and transfer good assets to bridge banks or healthy institutions. - Non-viable banks should exit with shareholders and creditors bearing losses in accordance with a clearly established hierarchy of claims. - Establish a temporary resolution fund: - Closure of failing banks and timely imposition of losses on shareholders and creditors should be a precondition for continued reliance on public funds. - Once a resolution regime is in place, a temporary and fiscally backed centralized resolution fund could be established to complement deposit insurance and support orderly exit of non-viable banks as implicit guarantees for bank creditors are phased out. - The fund would support orderly resolution by contributing resources to asset and liability transfers and injecting capital into bridge banks, with safeguards to minimize moral hazard and a mechanism to recover any losses from the industry over time. - Use of public funds for recapitalization: - Should be a last resort, only used if financial stability is severely threatened, and subject to strict conditions and restructuring requirements that reinforce market discipline and protect taxpayers. - Develop a well-functioning distressed debt market: - Encourage banks to recognize and dispose of bad assets in a timely manner to expand the market for distressed debt. - Active markets to unload converted equity will help incentivize banks to increase use of debt-equity swaps. ### Corporate restructuring and SME support - Gradually replace corporate support measures with policies to help corporate restructuring and the reallocation of labor and capital to viable firms. - Market-based corporate restructuring framework: - Facilitate deleveraging and exit of non-viable firms through triage of insolvent firms, loss recognition, and burden sharing within the general corporate insolvency framework. - Improve legal insolvency and debt enforcement frameworks to address creditor coordination, incomplete contracts, and asymmetric information. - Public credit guarantees could help refinance working capital of viable firms and improve credit supply for POEs. - Financing support to SMEs in a market-friendly manner: - Fiscal funding for the recently expanded national credit guarantee fund or for SME loan securitization could provide credit to SMEs while minimizing distortions to credit allocation and risk pricing. - Example policy: provide grants in return for a temporarily higher future corporate tax rate. - Facilitate access to risk capital by eliminating the tax bias against equity and simplifying regulations for launching startups. ### Authorities’ views on fiscal and financial policies - Fiscal policy: - Authorities stressed the importance of sustainable fiscal policies, balancing fiscal risk from higher public debt against the need to support growth. - Public investment and policy support will continue for employment and new businesses in 2021, while the expiration of tax and fee reduction measures will improve overall revenues. - Plans to reform the unemployment system (established in 1999) to improve central-provincial coordination, benefit portability, simple application procedures, and skill training. - Authorities disagreed with staff’s augmented concept regarding local governments’ legal responsibility under the 2014 Budget Law for financial obligations of market entities such as SOEs. - Authorities view fiscal risks as still low given general budgetary debt is well below the average for emerging market economies and local governments’ debt carrying capacity remains above globally accepted thresholds. - Monetary and financial sector policy: - Authorities committed to prudent monetary policy balancing support for the recovery with financial stability concerns. - Monetary policy to use conventional instruments, keep a normal, upward-sloping yield curve, and create an appropriate liquidity environment for government bond issuance. - Some non-interest rate policies will be phased out; support for smaller firms will be maintained and improved. - Authorities see lower lending rates as important to reduce corporate borrowing costs while keeping banks’ profit margins within a reasonable range. - More provisioning supported by capital replenishment and reduced dividend payouts seen as helping banks dispose expected higher nonperforming assets next year. - Continued efforts to improve financial sector governance and shadow banking supervision are important. - Authorities reiterated commitment to increasing exchange rate flexibility and noted that the PBC has stopped regular FX interventions; they also view the reserve requirement on FX forwards as a macroprudential measure. - On resolution funding: - Authorities emphasized they have addressed problems in several high-risk institutions and will continue a market-principles and rule-of-law approach. - Expressed concerns that establishing a temporary fiscal backstop for resolution funding may amplify moral hazard. - Capital replenishment efforts will be prioritized for institutions capable of sustaining market-oriented operations after shareholders bear losses; unsustainable institutions will face market exit. ### Maximizing policy space by improving policy transmission - Modernize monetary policy framework to strengthen interest-rate transmission: - PBC reformed the loan prime rate (LPR) framework by re-benchmarking the LPR on the one-year MLF rate and linking all new and existing loan rates to the LPR. - Additional reforms: phase out interest rate guidance for deposits and inclusive lending to ease regulatory distortions and strengthen market-based pricing. - Benefits: increase pass-through of policy rate cuts to bank funding costs, support banks’ ability to provide new financing, expand credit supply to riskier borrowers such as smaller POEs, reduce need for distortive directed lending, and lower financial stability risks. - Develop bond and FX derivatives markets to increase policy transmission to longer-term bond yields and facilitate a more flexible exchange rate with appropriate FX risk hedging instruments. - Establish a macro-fiscal framework to improve fiscal policy transmission: - A medium-term macro-fiscal framework should include: - (i) fiscal policy targets consistent with fiscal sustainability and macroeconomic stability; - (ii) top-down medium-term macroeconomic and fiscal forecasting; - (iii) a bottom-up "baseline" expenditure forecasting methodology; and - (iv) a strategic decision-making phase in the budget process to decide on the use of the available fiscal space. - The framework should consider the entire general government and publish reports on general government operations (covering revenues, expenditure, and financing) on a monthly basis. - Positive steps: new requirement that provinces and ministries submit three-year budget plans and the development of a framework for preparation of government financial reports implemented through a pilot exercise in 2020. - Continue strengthening macro-fiscal coordination including through the fiscal policy unit in the Ministry of Finance. - Enhance transparency around fiscal actions: - Control, track, and audit implementation of policy measures. - Publish general government accounts and balance sheets. - Provide information on quasi-fiscal operations of SOEs and extrabudgetary funds. - Prepare a fiscal risk statement and improve framework for non-tax revenues, especially revenue related to land sales. - New regulation governing implementation of the Budget Law adds more discipline to budgeting and financial reporting; coverage should be further expanded to include quasi-fiscal activities. ### Intergovernmental coordination and fiscal risk sharing - Strengthen intergovernmental coordination to increase fiscal effectiveness and enhance fiscal risk sharing across provinces: - Key reforms include: - (i) establishing an automatic and non-regressive fiscal transfer mechanism for the total transfers to each province; - (ii) reducing misalignment of central-local fiscal responsibilities; and - (iii) removing local protectionism (including prohibitions on interregional circulation of certain goods and services and designation of service providers) and remaining hukou restrictions to help firms and households adjust to idiosyncratic shocks. - Observed fiscal patterns: - Off-budget quasi-fiscal activities have increased significantly (chart notes and figures in source). ### Digital technologies, Fintech, and e-CNY - Use digital technologies to improve delivery of government support: - Recent efforts: distribution of consumption vouchers through Fintech platforms (RMB 60 billion by end-June) and online applications for unemployment benefits. - Digital delivery can improve effectiveness, targeting, and transparency of consumption support and social assistance. - Fintech to support small firms and inclusive recovery: - Fintech lending platforms and online banks can better target small- and micro-sized borrowers using behavioral big data to adjust lending terms through the cycle, potentially protecting lenders and borrowers from collateral deterioration. - Evidence suggests Fintech has contributed to more inclusive income growth across regions and income groups. - Strengthen regulatory and supervisory frameworks to address Fintech risks to financial stability, integrity, and data governance. - PBC’s central bank digital currency e-CNY: - Currently being tested across several regions and electronic payment platforms. - Potential benefits: promote financial inclusion, payment efficiency, strengthen monetary policy transmission, targeted delivery of fiscal support, and increase transparency in public finances. - Risks: operational disruptions and cyberattacks need careful monitoring and assessment. - Authorities’ views: - LPR reform has strengthened policy transmission by ensuring more immediate pass-through to lending rates and increasing available credit for smaller firms; it also led to lower deposit rates by some large banks. - Authorities view benchmark deposit rate as preventing disorderly competition for deposits and see the e-CNY’s domestic purpose as primary, noting importance of international coordination before any cross-border use. ### Adjusting macroeconomic policy to the pace of the recovery - If the recovery falls short of the baseline, macroeconomic policy should step up: - Additional support should primarily focus on increasing social assistance spending and protecting the most vulnerable. - Accelerate structural reforms that strengthen markets, increase competition, and foster openness to support growth and amplify policy effectiveness. - Fiscal expansion guidance: - Any additional fiscal expansion should be on-budget, centrally financed, and focused on low-income households, public health, and social safety nets. - Potential revenue measures: (i) removal of minimum social security contribution for low-paid workers; (ii) additional fee cuts; and (iii) extension of tax relief and waived social security contributions. - Potential expenditure measures: (i) temporarily increase unemployment insurance benefits; and (ii) consider wage subsidies for migrant workers who fall outside social protection schemes. - Monetary policy guidance: - More forceful monetary easing should focus on policy rate cuts. - Rapid implementation of deposit and lending rate reform and addressing weak banks would amplify impact of rate cuts. - In a severe scenario where recovery is delayed and inflation falls significantly below baseline while financial conditions tighten amid large fiscal deficits, PBC could consider a well-communicated market-based policy combining multiple non-distortionary measures (e.g. interest rate cuts, open market operations, or forward guidance). - If exceptional financial support measures are necessary, banks should be encouraged to expand bilateral restructuring efforts with viable borrowers and use capital and liquidity buffers; SME credit support should be market-friendly (¶33). - Contingency plans should be prepared to limit repercussions from potential external sanctions against financial institutions operating in Hong Kong SAR. - Exchange rate stance: - The exchange rate should remain flexible. - In case of persistent FX market pressures leading to herding and financial stress, FX intervention could be used to counter disorderly market conditions if necessary, while tightening existing CFMs in a transparent and temporary manner could be appropriate as part of a broader policy package. *Source: IMF staff summary of content unit "32. A comprehensive bank restructuring approach is needed to strengthen the banking" from the provided PDF content.* ### 44. On the other hand, policy support could be scaled back should economic activity ### 1chnea2021001 - 44. On the other hand, policy support could be scaled back should economic activity ### Policy adjustment scenarios and immediate measures - If economic activity recovers faster than expected, policy support could be scaled back, including accelerating fiscal consolidation. - Example measure: additional consolidation measures that lower the augmented deficit by an annual average of one percentage point of GDP starting in 2022 would stabilize the augmented debt-to-GDP ratio by around 2025. - Possible fiscal measures: decreasing off-budget local government infrastructure spending; accelerating tax reform such as the reduction of tax-free thresholds for PIT and the implementation of a nationwide recurrent property tax. - Monetary policy: would need to stay put or tighten moderately in line with the pace of recovery and inflation development, while avoiding an abrupt tightening of financial conditions. - Financial regulation: financial regulatory reform should resume more quickly, including by accelerating the asset management reform, to support deleveraging and financial de-risking. ### Authorities’ views on macro policy stance - Authorities concurred that macroeconomic policy should be adjusted to the pace of the recovery. - If the recovery falls short: - Monetary support would keep liquidity at an appropriate and adequate level and ensure supportive financial conditions. - Fiscal policy would be conditioned on economic situations, enhance countercyclical adjustment, and play a key role in stabilizing the economy. - If the recovery is stronger-than-expected: - Accelerate fiscal consolidation and resume financial regulatory reforms more quickly. - Monetary policy to adjust based on inflation and financial stability considerations. ### Re-accelerating reforms to support balanced, job-rich growth - Simultaneous implementation of key reforms can complement macro stimulus and promote a job-rich and balanced recovery. - Key reform areas to be implemented together: - Further opening up domestic markets, especially the service sector. - Strengthening social safety nets. - SOE reform while ensuring competitive neutrality. - Promoting green investment. - Rationale: Many reforms are mutually reinforcing; simultaneous implementation would maximize impact and limit short-term adverse effects. - Use of additional revenues from carbon pricing or other climate mitigation measures to finance a permanent expansion of social safety nets. ### Strengthening social safety nets and hukou and land reforms - Strengthening social safety nets and accelerating hukou and land reforms will improve labor market mobility and adjustment. - Urbanization has helped rural workers find work in economically active regions, where household incomes are twice as high as in rural areas. - Holistic reform objectives: further improve the hukou system, preserve migrant worker land ownership rights, improve efficiency of rural land markets, and increase spending on public services and social safety nets. ### Market-opening and SOE reform to narrow productivity gaps - China’s average sectoral productivity is about one third of the global frontier, implying substantial room to raise productivity. - Productivity gaps are especially large in services; business services productivity stands at only 17 percent of the frontier level. - Reforms to address gaps: - Further open non-strategic sectors such as services to new private firms—domestic and foreign. - Remove regional regulatory barriers to facilitate firm entry and mobility across regions. - SOE reform specifics: - Private firms are generally more productive than SOEs; average productivity gap between SOEs and private enterprises across sectors in China is about 20 percent. - Staff analysis suggests reforms closing productivity gaps between SOEs and POEs across sectors could raise output by around 4 percent over the medium to long term. - Remove implicit guarantees to ensure competitive neutrality in financing between SOEs and POEs; allow more defaults of SOE and LGFV bonds if market forces warrant (in line with the plan of the National Development Reform Committee (July 2019)). - Improve SOE governance and transparency in line with the 2015 OECD guidelines on corporate governance of SOEs. ### Personal insolvency regime reform - Establishing a personal insolvency regime would help address over-indebtedness of small entrepreneurs and households, supporting post-pandemic adjustment. - If carefully designed to minimize moral hazard, discharge of debt under certain conditions would facilitate the return of overly indebted individuals to the economy and promote entrepreneurship. ### Fostering innovation and green investment - Government support for basic R&D and innovation can address market failures (large knowledge spillovers) when prudently deployed; support should be transparent, timebound, and avoid distorting competition. - Avoid distortionary industrial policies such as subsidies for utilities and land acquisitions that favor SOEs. - Green investment benefits: - Public investment in climate-resilient infrastructure and transition to lower-carbon activities (e.g., clean transport) supports job creation and resilience. - Public works (including in provinces affected by flooding) can facilitate poverty reduction through green jobs (reforestation, soil and water conservation, flood protection). - Continue tax relief and fiscal incentives for low emissions vehicles. - Climate targets and carbon pricing: - President Xi’s announcement: strive for CO2 emissions to peak before 2030 and achieve carbon neutrality by 2060. - National emission trading system for the power sector should be implemented as soon as possible—preferably by the end of this year as currently scheduled—and strengthened by more stringent energy efficiency standards and gradually increasing carbon prices. - New carbon pricing policies for non-covered sectors should be developed. - The majority of carbon revenues can go towards funding social safety nets and cuts in distortive taxes, done equitably to offset negative macroeconomic and distributional effects of higher energy prices. - Recent staff simulations: the carbon price, which is currently RMB 34 (about US$5) across the eight pilots, needs to grow between 5 to 7 percent annually in order to achieve 80 percent CO2 emission reduction by 2050. ### China’s role in solving the global crisis and international cooperation - China can help the global community overcome the health crisis by ensuring rapid production and equitable distribution of COVID-19 vaccines. - China’s participation in G20 efforts: participation of Chinese official creditors in the extension of the Debt Service Suspension Initiative (DSSI) and the common framework for debt treatments beyond DSSI is welcome; the common framework is expected to facilitate timely and comprehensive debt resolution with fair burden sharing including for private creditors. - Strengthen external lending frameworks by enhancing debt sustainability monitoring and transparency to maximize benefits from infrastructure investment. - A more open, stable, and transparent rules-based international trade system would benefit China and the global economy; reducing uncertainty and boosting global trade requires constructive work with trading partners on trade, investment, digital sphere, and services trade. - Efforts should continue to reach an agreement on China’s joining the WTO’s Government Procurement Agreement. - Regional Comprehensive Economic Partnership (RCEP) agreement completion and successful implementation would boost regional trade. ### Authorities’ views on reforms and global cooperation - Authorities stressed advances in hukou reform and commitment to further SOE and market reforms, including mixed ownership reforms and improving SOE governance through corporate boards. - Authorities noted their pre-crisis target of reducing SOE leverage (liability-to-asset ratio) by 2 percentage points will be achieved by the end of 2020 despite the pandemic. - On climate goals, authorities reaffirmed CO2 emissions peaking before 2030 and carbon neutrality before 2060, are developing a national carbon emissions trading market and will expand coverage, and emphasized the need for international cooperation. ### Staff appraisal, risks, and recommended policy mix - Staff assessment: Chinese economy continues fast recovery from the health and economic crisis; recovery is unbalanced, relying heavily on public support while private consumption is lagging; pandemic has exacerbated inequality and financial vulnerabilities. - Structural reform progress: Hukou reforms and financial sector opening have advanced (shortened negative lists for foreign investment; removal of foreign ownership caps in securities, fund management, futures and life insurance; removal of restrictions on investment quota of foreign institutional investors; amended patent law). Real-sector reforms, especially SOEs and competitive neutrality, have been slower. - Balance of risks: still on the downside. - Upside: faster-than-expected widespread availability of effective vaccines and therapies could accelerate recovery domestically and globally. - Downside risks include: - Failure of the handoff from public to private demand (e.g., COVID-19 resurgence or sudden tightening of financial conditions). - Further escalation of external pressure (e.g., binding limitations to China’s access to the international technology frontier and restrictions on financial flows through Chinese financial institutions operating in Hong Kong SAR). - Recommended 2021 policy mix: - Macro policy should remain moderately expansionary in 2021, reoriented to support more balanced growth. - Fiscal stance: moderately expansionary, shifting from infrastructure spending towards strengthening social safety nets and promoting green investment. - Monetary policy: remain accommodative given low inflation, support the fiscal effort, and phase out potentially distortionary measures such as lending targets and lending rate guidance as recovery takes hold. - Exchange rate flexibility: remain essential to facilitate adjustment to the new external environment. *Source: IMF staff report excerpt (Content unit 1chnea2021001 - 44).* ### 62. Improving the effectiveness of fiscal and monetary policy will maximize policy ### Improving the effectiveness of fiscal and monetary policy will maximize policy ### Fiscal and monetary policy: recommendations and rationale - With public debt already high and rising, fiscal policy should be made more effective by: - Improving the macro-fiscal framework and intergovernmental coordination. - Leveraging digital technologies to deliver support to vulnerable groups. - Further modernization of the monetary policy framework is recommended to: - Strengthen the transmission of conventional interest rate policies. - Help improve credit intermediation. ### Financial sector risks and recommended actions - Exceptional financial support measures used during the crisis (e.g., relaxed NPL recognition standards and repayment moratoria) should be phased out as the recovery takes hold and replaced by proactive measures: - Address problem loans directly. - Strengthen regulatory and supervisory frameworks. - Resuming financial regulatory strengthening will help: - Contain corporate leverage. - Reduce shadow-banking risks. - A comprehensive bank restructuring framework is needed to: - Lower systemic risks. - Continue de-risking. ### Reforms to enhance resilience and private sector role - Simultaneous implementation of key reforms can support a job-rich and balanced recovery: - Further opening up of domestic markets. - Reforming SOEs and ensuring competitive neutrality with private firms. - Promoting green investment. - Strengthening social safety nets. - Expected outcomes of these reforms: - Boost potential growth. - Reduce external imbalances. - Build a more resilient, green, and inclusive economy. ### China’s international role and data credibility - China should continue to lead multilateral efforts to address global challenges, including: - Supporting international efforts to expand access to a vaccine. - Providing debt relief to low-income countries. - Providing sustainable financing for global infrastructure investment. - Tackling climate change. - China and its trading partners should work together to build a more open, stable, and transparent rules-based international trade system. - Urgent priority: address macroeconomic data gaps to further improve data credibility and policy making. - It is proposed that the next Article IV consultation with China take place on the standard 12-month cycle. ### Box 1 — China’s Exit Strategy From COVID-19: key findings - Containment and reopening approach: - Combination of swift and targeted lockdown measures, well-sequenced reopening policies, expanded testing, and enhanced tracing capacity leveraging technology and big data. - Targeted outbreak control at subdistrict level minimized disruptions to economic activity. - Differentiated activity resumption across regions and sectors; low-risk areas and critical sectors opened first. - Testing and digital tools: - Weekly production capacity of nucleic acid testing kits reached 46 million per week by August. - Online testing reservation available on WeChat and e-commerce platforms. - Mandatory testing for high-risk groups and for international inbound travelers. - Mobile health QR code widely used to assess individual infection risk and manage mobility restrictions. - Note on measurement: - Stringency indices classify policies into 12 sectors with ratings from “no restriction” (0) to “full closure” (3). ### Box 2 — Impact of China’s Monetary and Credit Policies Amid COVID-19: key findings and caveats - Role of PBC policies: - PBC’s conventional monetary policy (policy rate cuts) lowered lending rates. - Expanded non-interest rate credit policy (re-lending facilities) provided banks with low-cost funding for targeted lending. - DSGE (GK) model simulations calibrated to China and the pandemic suggest: - Moderate credit interventions can limit the fall in credit by around 1 ppt; aggressive policy is about twice as effective. - Depending on the scenario, the central bank facilitates additional intermediation of up to 5 percent of GDP of investment-related credit, augmented by lower interest rates. - Credit policy helps limit falls in asset prices, prevents increases in five-year credit spreads, and boosts credit by around 1-2 ppt. - Efficiency and stability risks: - Central bank-intermediated credit could contribute to moral hazard if loans funded by re-lending facilities leave banks to neglect risk control and monitoring. - Lending rate guidance and lending growth targets may lead to credit misallocation risk not captured in the model. - Simulations suggest credit policies lead to a more persistent build-up in private credit, potentially adding to high private sector leverage and exacerbating financial stability risks. ### Box 3 — Tracking Economic Activity in China (C-TEA): methodology and insight - Tracker construction: - A factor model relates an unobserved measure of economic activity to observable indicators; activity decomposed into trend and cyclical components: U_t = U_T_t + U_C_t. - Real imports are a key variable; parameter α_M links activity and import cycles and is calibrated using a median estimate from advanced economies. - Other indicators include electricity production, industrial value added, PMI, capacity utilization, and business climate surveys. - Insight: - C-TEA suggests the pandemic left a deeper impact than the Great Financial Crisis. - Despite a strong rebound after the shock hit in 2020Q1, the gap remains deeply negative in 2020Q2. - Caution: C-TEA likely understates the contraction and subsequent recovery in the first half of 2020 because it was not designed to capture very sharp and sudden swings. ### Box 4 — Lockdowns’ Spillovers Through Trade: empirical findings - Method and data: - Global daily seaborne trade data (ship radio transmissions) used to estimate trade volume and trace supply spillovers of lockdown measures. - Daily bilateral seaborne trade estimates capture geography-induced lags in spillovers. - Key empirical results: - Supply disruptions due to lockdowns reduced global seaborne imports in February-March 2020 by about 10 percent, with China’s lockdowns contributing about 4 percentage points. - Spillovers are large but short-lived; the effect of countries’ lockdowns on trading partners’ imports becomes insignificant in later stages of the crisis. - Example timing: lockdowns in Asia in January-February impacted U.S. West Coast ports around two weeks later. - Implication: - Short-lived nature of disruptions supports arguments for globalized production based on efficiency and diversification benefits. *Source: IMF staff summary of chapter content and accompanying boxes.* ### Box 5. Progress on Structural Reforms ### Box 5. Progress on Structural Reforms ### Overview - Reforms have been advancing, but there is significant scope to enhance resilience and the role of the private sector. - Continued progress noted in: opening up of the financial sector, hukou reform, and intellectual property protection. - Significant scope remains for SOE reform and strengthening the role of markets. - Further reforms would help anchor domestic growth, reduce external imbalances, and build a more resilient, green, and inclusive economy. ### Opening up: significant progress - Government actions undertaken: - Adopted a new foreign investment law. - Streamlined the negative list for foreign investment. - Accelerated financial opening up and lifted foreign ownership restrictions in selected areas. - Implemented multiple rounds of tariff cuts. - Remaining issues: - Market entry into China’s service sector remains restricted. - Effectiveness of the foreign investment law will depend on its proper implementation. - Policy suggestion: - Together with trading partners, China can work to reform the WTO to reflect changes in the global economy, including in e-commerce and the service sector. ### Labor and product markets: some progress - Progress made: - Streamlining business administration. - Relaxing hukou restrictions. - Developing capital markets. - Remaining scope: - Further reforms to unify product markets by removing local protections. - Improve labor market flexibility through more comprehensive hukou reforms that allow for greater labor mobility. - Linkages: - Market reforms will encourage foreign investors to take advantage of progressive opening up of financial markets. ### SOEs: limited progress - Actions and outcomes: - Government adopted several measures; treatment of zombie central SOEs is largely complete but mainly via mergers and acquisitions by other SOEs, resulting in fewer but larger SOEs. - Remaining needs: - More fundamental reforms such as removing implicit guarantees and tightening budget constraints of SOEs. - SOE deleveraging has paused, reflecting in part the pandemic crisis and sectors’ efforts to support growth. - New rules to reduce government intervention in SOEs were drafted, but the role of the state in SOE governance has strengthened. ### Rebalancing: some progress - Pandemic effects: - Interrupted rebalancing as households increased savings, social distancing affected the services sector, and government support emphasized investment. - Progress and gaps: - Strong efforts to tackle pollution, but climate policies remain a challenge. - Significant effort in alleviating poverty, but income inequality remains high. - Policy implication: - The pandemic crisis emphasizes the urgency of further strengthening the social safety net. ### Financial sector: limited progress - Strengthening: - Financial supervision broadly strengthened despite the unprecedented crisis. - Crisis-era measures and risks: - Authorities provided exceptional financial support measures during the COVID-19 shock by loosening NPL recognition standards, requiring banks to increase low-cost lending to risky borrowers, and delaying the implementation of the asset management reforms. - These measures can be phased out as the recovery takes hold as they run the risk of undoing recent progress in strengthening bank transparency and governance. - Structural needs: - Recent proposed revision to the Commercial Banking Law promises to strengthen authorities’ bank restructuring tools. - A fully functioning resolution framework is still urgently needed to support the orderly exit of non-viable banks. ### Policy frameworks: some progress - Achievements: - Good progress in capital market reforms and reformed the loan prime rate. - Remaining actions: - Success of these measures hinges on implementation and continued modernization of frameworks. - Monetary policy transmission could be enhanced by further moving towards an interest rate-based framework and phasing out deposit rate guidance policies. - Fiscal policy would benefit from accelerated efforts to develop a comprehensive medium-term fiscal framework. *Prepared by Sarwat Jahan and Longmei Zhang.* ### Box 9. Summary of the Proposal on China’s 14 ### Box 9. Summary of the Proposal on China’s 14th Five-Year Plan ### Overview - Proposal released at the conclusion of China’s fifth plenum outlining broad contours of the 14th Five-Year Plan (2021-25). - Plan vows to promote technological self-reliance, implement the strategy of sustainable development, and develop a robust domestic market. - Does not suggest specific GDP growth targets. - Lays out a 15-year goal to raise per capita output levels to that of a moderately developed country by 2035. - A more detailed report on the 14th Five-Year Plan will be released after approval by the National People's Congress in March 2021. ### Technological self-reliance and the “2035 vision” - Self-reliance in technology is a major theme, emphasizing home-grown technological innovation to drive sustainable growth amid a complex international environment. - The “2035 vision” aims to achieve major breakthroughs in key core technology by 2035. ### Dual circulation strategy and external openness - Implementation of a “dual circulation” strategy is presented as a long-term strategy to enhance the resilience of China’s economic development by strengthening its domestic economy. - The communique states that the strategy does not mean a retreat from China’s opening up; China will continue to promote international trade, broaden access to Chinese markets, and invest overseas. - The communique emphasizes that a complete "decoupling" between China and the U.S. is unrealistic and would hurt both countries and the world. ### Employment, social support, and demographic policy measures - Aim to achieve “sustained and healthy” economic development in 2021-2025, with a focus on higher quality growth. - Plans include steps to strengthen China’s employment by: - improving employment support for key groups, - building a high-quality education system, - improving care for the elderly and the social security system. ### Climate, environmental, and agricultural commitments - Communique reaffirmed the climate goals introduced by President Xi. - The Five-Year Plan calls for a significant green transformation of production and lifestyles. - Seeks to improve energy and resource efficiency, while steadily reducing total volumes of major pollutants. - Vows to speed up modernization of agriculture and rural areas, ensure national food security and improve agricultural quality and competitiveness. *Prepared by Wenjie Chen and Xin Li.* ### 2020. To correct for the structural break, the components are ### 1chnea2021001 - 2020. To correct for the structural break, the components are ### Financial market conditions and funding - Short-term money-market rates and longer-term government bond yields: - Fell sharply in 2020H1 but rebounded after the PBC scaled back expectations for further interest rate reductions. - 7-day interbank repo rate (DR007) and 5-year government bond yields tracked this pattern (figure timeline markers include 2018M1–2020M11). - Government bond supply: - Supply pressures, particularly at long-maturity tenors, contributed to higher yields. - Gross central and local government bond issuance series shown (three-month moving average, rhs) with maturity buckets (> 7 yrs, 3-7 yrs, < 3 yr). - Corporate bond market: - Corporate bond issuance started picking up from August 2020. - Corporate credit spreads rose, indicating rising risk premia for corporate and LGFV issuers (credit spreads plotted by rating and issuer type; series include Enterprise bonds (AA-), Enterprise bonds (AAA), LGFV (AA-), LGFV (AAA), timeline up to 2020M10/2020M11). - Equity markets and foreign participation: - Equity prices rose as market leverage rebounded (CSI 300 equity index and outstanding margin lending plotted; timeline up to 2020M11). - Foreign investors increased participation in Chinese bond and stock markets (cumulative net foreign bond purchases via Northbound Bond Connect and cumulative net stock purchases via Northbound Stock Connect; timeline markers include 2015–2020M10). ### Banking sector: expansion and profitability pressures - Asset growth and composition: - Bank asset growth rebounded after the Q1 lockdown, led by large and medium-size banks (growth rate series shown for large commercial banks, joint-stock commercial banks, city commercial banks, rural financial institutions; timeline to 2020M9). - Interbank and “nonstandard” bank assets rebounded amid further delays to implementation of asset management rules (three-month changes in assets by component including Interbank, Shares and Other Investment, Total Assets; timeline to 2020M10). - Funding and lending rates: - Bank funding costs remained steady despite the fall in policy interest rates. - Lending yields declined as the PBC cut the Loan Prime Rate (LPR) and guided banks to reduce lending rates, squeezing margins (benchmarks shown: Benchmark lending rate (=< 1 year), Benchmark lending rate (>5 years), 1-year LPR, 5-year LPR, Average lending rate; timeline to 2020). - Profitability and impairments: - Impairment expenses rose; commercial banks' impairment expense plotted as percent of total assets (series include Joint-stock commercial banks, Big 5 banks, Small banks; timeline to 2020H1). - Commercial banks' net profits (in percent of total assets, 4-quarter moving average) declined across bank categories (All commercial banks, Large commercial banks, Joint-stock commercial banks, City commercial banks, Rural financial institutions; timeline markers include 12/2018–09/2020). ### Key macroeconomic indicators and projections (selected from Table 1) - Real GDP (base=2015): 6.9 6.8 6.9 6.7 6.1 1.9 7.9 5.7 5.6 5.5 5.4 (series for 2015–2025) - Total domestic demand: 7.3 7.9 6.8 7.4 5.5 1.5 8.7 5.8 5.6 5.6 5.4 - Consumption: 8.3 8.5 7.3 8.1 6.4 -0.8 11.3 6.4 6.5 6.2 6.1 - Investment: 6.1 7.2 6.1 6.5 4.5 4.6 5.4 5.1 4.6 4.8 4.5 - Consumer prices (average): 1.4 2.0 1.6 2.1 2.9 2.4 0.5 1.9 1.9 2.0 2.0 - 7-day repo rate (percent): 2.4 2.7 5.4 3.1 3.1 (series shown; dots for later years omitted) - 10-year government bond rate (percent): 3.7 3.0 3.9 3.3 3.2 - Total social financing: 12.5 30.5 14.1 10.3 10.7 13.8 12.2 9.4 8.8 8.4 7.9 - Total nonfinancial sector debt (percent of GDP): 214.5 16.8 14.4 10.8 10.7 13.9 12.4 9.8 9.2 8.7 8.2 (table formatting preserves series alignment as in source) - Household debt (percent of GDP): 39.1 44.7 48.9 52.3 55.6 58.3 61.3 62.4 64.0 64.9 66.0 - General government net lending/borrowing (percent of GDP, Fund definition): -2.8 -3.7 -3.8 -4.7 -6.3 -11.9 -11.0 -10.1 -9.1 -8.3 -7.5 - Debt (narrow general government, percent of GDP): 36.7 36.7 36.2 36.5 38.1 44.7 47.2 49.5 51.2 52.6 53.8 - Gross official reserves (billions of U.S. dollars): 3,406 3,098 3,236 3,168 3,223 3,579 3,842 4,127 4,427 4,734 5,056 - Nominal GDP (billions of RMB): 69,209 74,598 82,898 91,577 99,493 103,462 113,377 122,286 131,750 142,072 153,020 - Augmented debt (percent of GDP): 55.2 66.4 72.8 76.4 80.5 91.7 96.4 101.4 105.6 109.3 112.7 - Augmented net lending/borrowing (percent of GDP): -8.7 -15.9 -13.5 -11.8 -12.6 -18.2 -17.2 -16.3 -15.4 -14.6 -13.8 ### Balance of payments and external accounts (selected from Table 2) - Current account balance (percent of GDP): 2.7 1.8 1.6 0.2 1.0 1.9 0.9 0.8 0.7 0.6 0.5 (2015–2025) - Trade balance (percent of GDP): 5.2 4.4 3.9 2.9 3.0 3.5 2.6 2.8 2.6 2.5 2.4 - Exports (percent of GDP): 19.3 17.7 18.1 17.5 16.7 16.7 15.7 15.3 14.7 14.4 14.1 - Imports (percent of GDP): 14.1 13.4 14.2 14.6 13.7 13.2 12.5 12.1 11.9 11.9 11.6 - Capital and financial account balance (percent of GDP): -3.9 -3.7 0.9 1.3 0.3 0.5 0.8 0.8 0.8 0.9 0.9 - Net foreign direct investment (percent of GDP): 0.6 -0.4 0.2 0.7 0.4 0.3 0.3 0.3 0.3 0.2 0.2 - Reserve assets (change, percent of GDP): 3.1 4.0 -0.7 -0.1 0.1 -2.4 -1.6 -1.6 -1.5 -1.4 -1.4 - International investment position (net, percent of GDP): 15.1 17.4 17.1 15.5 14.7 15.5 14.5 14.0 13.6 13.1 12.6 - Nominal GDP (billions of U.S. dollars): 11,114 11,227 12,265 13,842 14,402 14,947 16,681 18,085 19,578 21,183 22,889 - Gross reserves (billions of U.S. dollars, memorandum): 3,406 3,098 3,236 3,168 3,223 3,579 3,842 4,127 4,427 4,733 5,055 ### External vulnerability indicators (selected from Table 3) - General government debt (narrow definition, percent of GDP): 36.7 36.7 36.2 36.5 38.1 (2015–2019) - Broad money (M2: annual percentage change): 13.3 11.3 9.0 8.1 8.7 - Local currency loans to the economy (annual percentage change): 14.3 13.5 12.7 13.5 12.3 - Foreign currency loans to bank domestic credit (percent): 4.0 3.4 3.1 2.8 2.5 - Stock exchange capitalization (percent of GDP): 94.3 91.6 94.7 77.8 92.7 - Foreign exchange reserves (in billions of U.S. dollars, end-of-period): 3,406 3,098 3,236 3,168 3,223 - ARA coverage (range, percent): 120-317 106-285 94-246 89-229 85-220 (coverage under different assumptions) ### Monetary and credit developments (selected from Table 4) - Broad money (M2, annual change): 13.3 11.3 9.0 8.1 8.7 (2015–2019) - Net foreign assets (annual change): -2.7 -5.9 -4.0 1.0 3.5 - Domestic credit (annual change): 23.7 20.1 11.3 10.4 10.6 - Total social financing (TSF, annual change): 15.1 16.0 14.1 10.3 10.7 - TSF components (levels, selected): Bank loans 138.4 144.5 146.6 149.5 154.5; Shadow banking 32.2 31.4 32.4 26.2 22.3; Net corporate bond financing 21.1 24.0 22.7 22.6 23.6; Government bonds ... 30.3 34.0 36.0 37.9 (series presented as in source) - Banking sector metrics (mem. items): Nonperforming loans ratio 1.7 1.7 1.7 1.8 1.9; Provision coverage ratio 181 176 181 186 186; Return on assets 1.1 1.0 0.9 0.9 0.9; Capital adequacy ratio 13.5 13.3 13.7 14.2 14.6 ### General government fiscal data (selected from Table 5) - Headline revenue (RMB billions): 152 271 596 017 259 183 361 903 918 312 204 812 253 124 924 278 523 087 334 440 (table format preserved as in source) - Headline expenditure (RMB billions): 175 881 877 620 309 220 912 388 624 986 277 202 989 932 212 347 363 741 340 281 (table format preserved) - Fiscal balance (official, RMB billions): -1626 -2166 -2353 -2379 -2758 -3803 -3573 -3645 -3906 -4240 -4577 -4844 - Fiscal balance (official, percent of GDP): -2.3 -2.9 -2.8 -2.6 -2.8 -3.7 -3.2 -3.0 -3.0 -3.0 -3.0 -2.9 - Net borrowing/lending (Fund definition, percent of GDP): -2.8 -3.7 -3.8 -4.7 -6.3 -11.9 -11.0 -10.1 -9.1 -8.3 -7.5 -6.8 - General budgetary debt (official, percent of GDP): 36.7 36.7 36.2 36.5 38.1 44.7 47.2 49.5 51.2 52.6 53.8 54.8 - Augmented debt (percent of GDP): 55.2 66.4 72.8 76.4 80.5 91.7 96.4 101.4 105.6 109.3 112.7 115.9 - Memo: Augmented excluding "possible to be recognized" 41.5 48.1 51.6 53.7 56.5 65.3 68.9 72.5 75.5 78.1 80.4 82.5 ### Nonfinancial sector debt (selected from Table 6) - Total non-financial sector debt (percent of GDP): 205 227 252 287 322 353 248 248 253 277 284 289 (two panel presentation in source) - Households (percent of GDP): 41 48 55 60 70 76 49 52 56 58 61 62 - Corporates (excluding LGFV, percent of GDP): 104 110 116 131 143 153 126 120 117 127 126 125 - LGFVs (levels/memo): LGFV shares and estimates shown (series include 27 31 35 39 44 50 ... in source) - Memo: Total domestic non-financial sector debt (percent of GDP): 200 221 246 280 315 346 242 242 247 271 278 283 - Nominal GDP (RMB trillions, memo): 8 39 2 99 103 113 122 (table entries preserved as in source formatting) ### Rebalancing scorecard - Table 7 presented a multi-dimensional rebalancing scorecard with indicators including: - Current account, Net exports contribution, Cons/Inv, Industry/Services, Credit, Energy, Air pollution, Labor income ratio, Income inequality. - Series and projections are arranged by year with entries for 2016–2020 and a Projection / YTD column (table structure preserved in source). _Italic: Source — IMF staff report content as provided in the supplied PDF chapter content._ ### 1. External rebalancing ### 1. External rebalancing ### External rebalancing indicators (selected) - Contribution of net exports to GDP growth: %-0.8 0.3 -0.5 0.7 0.4 - Current account balance: 1.8 1.6 0.2 1.0 1.9 - FX reserve coverage: 16.8 15.2 15.3 16.4 16.3 - National saving rate: 44.5 44.8 44.1 44.1 45.0 ### Assessment and outlook - Overall Assessment: The external position in 2019 was broadly in line with the level implied by medium-term fundamentals and desirable policies. - 2020: The CA surplus is expected to temporarily widen in 2020 amid the pandemic, and trend downward over the medium term in line with rebalancing. On a preliminary basis and adjusting for transitory factors, recent developments suggest a broadly unchanged overall external position in 2020 compared to 2019. - Uncertainty: Assessment is highly uncertain given the lack of full-year data for 2020 and the COVID-19 crisis; a complete analysis will be provided in the 2021 External Sector Report. ### Potential policy responses - Prioritize support to the most affected households, workers, and firms, with increased focus on further supporting the demand recovery. - China has room to provide more policy support if needed, including on green investment and strengthening the public health system and social safety net. - If pre-COVID imbalances persist, policies to achieve a lasting balance in the external position should include: - gradual fiscal consolidation; - successful implementation of the authorities’ reform agenda to address distortions and support rebalancing (improving the social safety net, SOE reform and opening markets to more competition, attracting more FDI, creating a more market-based and robust financial system); - moving to a more flexible exchange rate along with a more market-based and transparent monetary policy framework. ### Foreign Asset and Liability Position - NIIP declined to 14.7 percent of GDP in 2019 from 15.5 percent in 2018 (peaked at 30.4 percent in 2008). - NIIP edged up to 15.7 percent as of end-Q2 in 2020. - 2019 (% GDP): NIIP: 14.7; Gross Assets: 53.6; Res. Assets: 22.4; Gross Liab.: 38.8; Debt Liab.: 14.3. - Assessment: NIIP-to-GDP ratio expected to remain positive with modest decline over the medium term; not a major source of risk given large foreign reserves (US$3.2 trillion; 22.4 percent of GDP) and liabilities mostly FDI related. ### Current Account details - Background: CA surplus widened to 1.0 percent of GDP in 2019. - 2019 drivers: slowdown from financial regulatory strengthening and U.S.-China trade tensions; trade flow timing shifts related to tariffs; lower commodity and semiconductor import prices; outbound tourism spending declined by ¼ percent of GDP. - Outlook: CA expected to reach 1.9 percent of GDP in 2020 due to: (i) collapse in outbound tourism spending; (ii) lower commodity prices amid weak global demand; (iii) surge in exports of pandemic-related goods and other products. - Medium term: CA surplus projected to converge to about 0.5 percent of GDP. - EBA/Staff estimates (2019): Actual CA: 1.0 (% GDP); Cycl. Adj. CA: 0.8; EBA CA Norm: –0.4; EBA CA Gap: 1.2; Staff Adj.: –0.2; Staff CA Gap: 1.0. - Staff assesses CA gap to range from –0.5 to 2.5 percent of GDP, midpoint 1.0 percent. ### Real Exchange Rate (REER) - 2019: REER depreciated by 0.8 percent from the 2018 average; NEER depreciated 1.8 percent. - October 2020: CCAF phased out; REER appreciated by 3.9 percent from the 2019 average. - EBA regression: REER gap in 2019 estimated –1.1 percent; gap implied by IMF staff CA gap (elasticity 0.23) –4.4 percent. - Staff overall REER gap range: –12 to 8 percent, midpoint –2 percent (high uncertainty). ### Capital and financial accounts; policy measures - Capital outflows (including net errors and omissions): about US$160 billion in 2019, up from US$6 billion in 2018; well below ~US$650 billion annual outflows in 2015–16. - October 2020: reserve requirement on FX forwards lowered from 20 percent to zero. - Two CFMs eased in 2020: ceiling on cross-border financing under macroprudential assessment raised by 25 percent; restrictions on QFII and RQFII removed; new quota of $12.7 billion granted for domestic institutional investors. - First half 2020 net capital outflows: $82 billion. - Assessment: Substantial net outflow pressures may resurface; further capital account opening should consider domestic financial stability and prioritize shift to an effective float, using FX intervention to counter disorderly conditions. CFMs should not substitute for warranted macroeconomic adjustment and exchange rate flexibility. Encourage inward FDI and improve corporate governance. ### FX intervention and reserves - FX reserves increased by US$35 billion in 2019; increased by US$20 billion as of October 2020. - Reserves level: 85 percent of IMF’s standard composite metric at end-2019 (89 percent in 2018) and 136 percent of metric adjusted for capital controls (142 percent in 2018). - Assessment: Level of reserves assessed to be adequate. --- ### SOE Performance (Table highlights) ### Profitability and efficiency (selected indicators) - Return on assets SOEs (latest observation for 2019 June): 1/ 1.8 1.6 1.9 1.9 0.9 - Return on assets industrial SOEs: 2.9 3.0 3.9 4.2 3.5 - Return on assets industrial private: 8.7 8.9 8.5 7.4 6.3 - Cost per unit of income - SOE: 97.3 94.8 97.1 97.1 97.4 ### Leverage and debt ratios - Debt to equity SOEs 2/: 192 190 192 183 182 - Central: 213 217 213 210 209 - Local: 175 171 174 165 165 - Debt to asset SOE: 65.7 65.5 65.7 64.7 63.9 - Central: 68.1 68.4 68.0 67.7 67.0 - Local: 63.7 63.1 63.5 62.2 61.6 - Debt to asset - above designated size industrial: 56.6 55.9 56.0 56.7 56.6 - Debt to asset - industrial state holding enterprises: 61.9 61.6 60.5 58.7 57.8 - Debt to asset - industrial private: 51.8 50.7 52.6 56.4 57.4 ### Other indicators - Number of zombies (legal entities of central SOEs): 3/: 204 184 114 110 2 - Number of bankruptcies: 356 85 66 59 42 18 823 ... - Corporate governance: Central SOEs with board of directors: 85.0 85.0 87.0 89.0 94.0 97.0 - Number of central SOEs 4/: 106.0 102.0 98.0 96.0 97.0 - Dividend payments to budget: 11.9 10.1 7.6 7.4 7.6 - SOEs share in the economy (employment): 15.4 14.9 14.3 13.2 ... - Above designated size industrial sales: 21.8 20.6 23.4 27.5 27.0 - Asset (industrial state holding enterprises/total above designated size industrial): 38.8 38.5 39.2 39.6 38.9 - Liability (industrial state holding enterprises/total above designated size industrial): 42.5 42.4 42.4 41.1 39.9 --- ### Rebalancing dimensions: Internal, Environmental, Income distribution (selected) ### Internal rebalancing — demand side - Growth contribution of consumption vs investment %: 1.5 1.5 1.6 1.9 -0.2 - Share of private consumption (nominal): 38.7 38.7 38.7 38.8 36.2 - Share of investment (nominal): 42.7 43.2 44.0 43.1 43.1 ### Internal rebalancing — supply side - Growth contribution of Tertiary vs Secondary sector 1/%: 1.7 1.8 1.8 1.6 0.6 - Share of Tertiary sector (nominal) 1/2/5: 52.4 52.7 53.3 53.9 55.4 - Share of Tertiary sector in total employment %: 43.5 44.9 46.6 48.1 ... ### Internal rebalancing — credit side - Private domestic credit: 168 169 166 167 179 - Credit intensity: 4.1 2.5 1.9 2.2 6.2 - Return on asset: SOE - private 1/2/%: -7.7 -5.6 -2.9 -3.1 -1.7 ### Environmental rebalancing - Energy intensity of output 1/8: 2.98 0.57 9.67 8 71 (as reported) - PM 2.5 (weighted by usual residence) 1/4: 9.84 8.04 4.64 0.73 6.3 (mcg per cubic metre / index numbers as reported) - Note: environmental indicators are significantly affected by the lockdowns in 2020 so far. ### Income distribution - Gini: 0.465 0.467 0.468 0.465 ... - Household disposable income: 61.6 60.1 59.3 59.1 57.6 - Urban/rural income gap 1/2/2.7: 2.7 2.7 2.6 2.64 2.67 - Real disposable income growth: Median – Mean 1/%: -0.1 -1.7 -0.1 0.1 -0.8 --- ### Appendix I: External Sector Assessment (summary) ### Overall Assessment (key points) - 2019 external position broadly in line with fundamentals and desirable policies. - CA surplus expected to widen temporarily in 2020 and trend down over the medium term with rebalancing. - Preliminary 2020 position broadly unchanged from 2019 after adjusting for transitory factors; high uncertainty. - Full analysis to appear in 2021 External Sector Report. --- ### Appendix II: Risk Assessment Matrix (selected risks and policy responses) ### Conjunctural risks (examples) - High likelihood: Unexpected negative shift in the Covid-19 pandemic. - Impact: Requires containment, weakens activity, may unmask debt-related vulnerabilities, prompt capital outflows, depreciation, inflation, protectionist actions. - Policy response: Macroeconomic policy should step up; additional fiscal expansion on-budget, centrally financed, focused on low-income households, public health, social safety nets; monetary easing via policy rate cuts; exchange rate flexible. - Low likelihood: Unexpected positive shift in the Covid-19 pandemic. - Policy response: Scale back policy support; accelerate fiscal consolidation; monetary policy stay put or tighten moderately. - High likelihood: Accelerating de-globalization. - Policy response: Address shortcomings in global trading/investment system; accelerate domestic reforms (markets, competition, openness, climate action). - Medium likelihood: Insufficient pickup in private demand. - Policy response: Shift fiscal policy toward household support to strengthen consumption growth and rebalancing. - Medium likelihood: Downturn in property market. - Policy response: Use macroprudential policies for the property market; ease them if sharp downturn occurs. ### Structural risks (examples) - Medium likelihood: Cyber-attacks on critical infrastructure. - Policy response: Implement firewalls, security measures, enhance crisis preparedness. - Low likelihood: Higher frequency/severity of natural disasters related to climate change. - Policy response: Push for green investment; well-sequenced climate mitigation strategies. - Medium likelihood: Comprehensive reform package (positive risk). - Policy response: Implement high-quality market-oriented reforms. --- ### Appendix III: Debt Sustainability Analysis (DSA) — key points ### Coverage and definitions - Two debt definitions used: - General budgetary (official): central government debt and on-budget local government debt identified by authorities; from 2014 includes explicit local government debt recognized by end-2014. - “Augmented” debt: broad coverage adding other local government borrowing (off-budget LGFV loans, bonds, trust loans, other funding), debt of government-guided funds and special construction funds; augmented deficit is flow counterpart. ### 2020–medium-term stance - Expansionary fiscal policy and carryover from 2019 tax reforms widened budget deficits considerably in 2020. - General budgetary (official) debt remains manageable. - Augmented debt and associated gross financing needs are high and on an upward trajectory. - Medium-term fiscal adjustment expected to stabilize official budgetary debt and augmented debt over the long term. - External debt is 0.2 percent of GDP and considered sustainable. *Source: IMF staff summary of "1. External rebalancing" (chapter/section), People's Republic of China Country Report excerpts.* ### 7.9 percent in 2021 from 1.9 percent in 2020 followed by a gradual tapering to a 5.2 percent growth rate ### 7.9 percent in 2021 from 1.9 percent in 2020 followed by a gradual tapering to a 5.2 percent growth rate ### Macroeconomic assumptions and growth path - Real GDP growth: "7.9 percent in 2021 from 1.9 percent in 2020 followed by a gradual tapering to a 5.2 percent growth rate in 2025." - Average GDP deflator growth: "about 2 percent" over the projection period. - Effective interest rate for central government and local government bonds: projected to decline to "2.2 percent in 2025." - Interest rates of off-budget borrowing (augmented scenario): assumed to be "about 3 percent." - Staff assumption on maturing debt: "all maturing debt will be rolled over." ### Fiscal assumptions and scenarios - General budgetary (official) coverage scenario: - Assumes all spending is done within the budget; "off-budget public investment is sharply reduced." - Primary deficit (excluding net revenue from land sales) assumed to increase to "13.8 percent of GDP in 2020 from 8.4 percent of GDP in 2019," then gradually decline to "9.3 percent of GDP in 2025." - Special purpose local bond quota increased to "RMB 3,750 billion RMB in 2020 from RMB 2,150 billion RMB in 2019" (equivalent to an additional "1.6 percent of GDP"). - Special central government bond for pandemic control: "RMB 1,000 billion (1 percent of GDP)." Most proceeds transferred to local governments for public health and infrastructure. - Augmented scenario: - Off-budget local government spending (including interest payments) held constant at "6.3 percent of GDP" over the projection period (below the 5-year average of "8.2 percent"). - Augmented primary deficit (on-budget plus off-budget financed by LGFV debt and government funds) projected to increase from "12.6 percent of GDP in 2019 to 17.8 percent in 2020," before gradually decreasing to "13.4 percent in 2025." ### Asset-based financing and amortization - Proceeds from net land sales and asset drawdowns in 2020: estimated to be "7.1 percent of GDP." - DSA assumption: asset-based financing peaks in 2022 and then "declines gradually relative to GDP" over the projection horizon as fiscal consolidation eases financing needs. - Amortization treatment: staff assume "all maturing debt will be rolled over." ### Debt projections and sustainability - Under general budgetary (official) coverage scenario: - Government debt increases to "54 percent of GDP in 2025 up from 38 percent of GDP in 2019." - Under augmented coverage scenario: - Augmented debt rises to "113 percent of GDP in 2025 from 81 percent of GDP in 2019." - Debt-stabilizing augmented primary balance estimated at "-4.4 percent of GDP in the medium term," which is "9 percentage points of GDP higher than its projected 2025 level." - Annual increase in debt relative to GDP slows over the projection horizon due to a favorable growth-interest rate differential. - Long-term outcome: "the gradual adjustment path assumed in the baseline, if maintained over the long term, will stabilize both debt-to -GDP ratios." ### Stress tests, risks, and contingencies - Narrow coverage scenario (budgetary government debt): - Budgetary government debt approaches "80 percent of GDP at the end of the projection horizon in all standard stress tests" except the contingent liability shock, in which it "approaches 100 percent of GDP." - Stress tests imply increased gross financing needs and potential rollover risks; China's large domestic savings mitigates this risk somewhat. - Broad coverage scenario (augmented debt): - Augmented debt level "approaches about 140 percent of GDP or more in 2025 under the various stress tests." - Note on net government debt: "To the extent that LGFV’s or state-owned enterprises hold government debt, net government debt is lower." ### Policy implications and required adjustments - Manageable under narrow coverage if fiscal adjustment is implemented: - Baseline assumes annual fiscal adjustment of "about 0.75 percentage points of GDP in the cyclically adjusted primary balance from 2022-25," which keeps the debt profile manageable given domestic financing. - Critical dependence on public investment and off-budget liabilities: - Broader debt dynamics hinge on the evolution of public investment, especially "off-budget investment." - If off-budget liabilities continue to be incurred by local governments, the "broad-coverage scenario is a better guide for fiscal policy." - The extent to which off-budget investment is undertaken strictly on a commercial basis will determine whether realized public debt aligns closer to the narrow-coverage or broad-coverage scenario. *Source: 1chnea2021001 (IMF chapter content provided)* ### 5. Stable and lower debt burdens that would accompany medium-term fiscal adjustment ### 5. Stable and lower debt burdens that would accompany medium-term fiscal adjustment ### Key findings and fiscal risk context - New borrowing avenues have emerged, such as less supervised PPP. - About a third of SOEs remain loss making, and overall SOE profitability remains weak, increasing fiscal risks from SOE debt especially given SOE assets may not be liquid. - It would be prudent to ensure public debt levels provide room to absorb the potential realization of those risks without leading to undue strain on funding markets or abrupt shifts in fiscal policy. - In addition to aggressively monitoring, actively mitigating, and effectively managing these risks, public debt headroom is necessary. ### Contingent liability shock illustration (IMF DSA toolkit) - The standard contingent liability shock assumes that 10 percent of non-government banking system assets would turn into government liabilities. - Non-government banking system assets were about 220 percent of GDP in 2016. - The shock also assumes that the real GDP growth in 2019 and 2020 would be 2–2.5 percent lower (a one standard deviation shock). ### Public sector DSA (Augmented Debt: Broad Coverage) — Selected indicators and projections (As of November 13, 2020) - Nominal gross public debt (percent of GDP) by year: 51.9, 76.4, 80.5, 91.7, 96.3, 101.2, 105.5, 109.3, 112.7 - Public gross financing needs (percent of GDP) by year: 26.9, 23.5, 23.6, 29.7, 28.7, 28.2, 27.7, 27.7, 27.0 - Real GDP growth (in percent) by year: 8.1, 6.7, 6.1, 1.9, 7.9, 5.7, 5.6, 5.5, 5.4 - Inflation (GDP deflator, in percent) by year: 2.9, 3.5, 2.4, 2.1, 1.6, 2.1, 2.1, 2.2, 2.2 - Nominal GDP growth (in percent) by year: 11.3, 10.5, 8.6, 4.0, 9.6, 7.9, 7.7, 8.7, 7.7 - Effective interest rate (in percent) by year: 5.1, 4.7, 4.2, 4.2, 3.5, 3.4, 3.3, 3.3, 3.2 - Change in gross public sector debt (cumulative): 3.8, 3.5, 4.1, 11.2, 4.6, 4.9, 4.3, 3.7, 3.4, 32.2 - Identified debt-creating flows (cumulative): 4.0, 4.9, 6.5, 15.1, 9.1, 9.3, 8.2, 6.9, 6.0, 54.6 - Primary deficit (by year, percent of GDP): 6.5, 8.7, 9.6, 14.9, 14.2, 13.3, 12.3, 11.4, 10.5, 76.7 - Primary (noninterest) revenue and grants (percent of GDP) cumulative: 27.1, 28.3, 27.7, 24.5, 25.0, 25.3, 25.8, 26.5, 27.1, 154.3 - Primary (noninterest) expenditure (percent of GDP) cumulative: 33.7, 36.9, 37.3, 39.4, 39.2, 38.6, 38.2, 37.9, 37.6, 231.0 - Automatic debt dynamics (cumulative): -2.5, -3.8, -3.1, 0.1, -5.1, -4.0, -4.2, -4.5, -4.5, -22.1 - Of which: real interest rate (by year): 0.9, 0.7, 1.2, 1.6, 1.5, 1.1, 1.1, 0.9, 0.9, 7.1 - Of which: real GDP growth (by year): -3.4, -4.4, -4.3, -1.5, -6.6, -5.1, -5.2, -5.4, -5.4, -29.2 - Residual, including asset changes (cumulative): -0.2, -1.3, -2.4, -3.9, -4.5, -4.4, -3.9, -3.2, -2.6, -22.4 ### Alternative scenarios and underlying assumptions (Augmented debt) - Baseline underlying assumptions (in percent): - Real GDP growth: 1.9, 7.9, 5.7, 5.6, 5.5, 5.4 (2020–2025) - Inflation: 2.1, 1.6, 2.1, 2.1, 2.2, 2.2 - Primary Balance: -14.9, -14.2, -13.3, -12.3, -11.4, -10.5 - Effective interest rate: 4.2, 3.5, 3.4, 3.3, 3.3, 3.2 - Historical scenario primary balance path: -14.9, -6.7, -6.7, -6.7, -6.7, -6.7 - Constant Primary Balance Scenario primary balance: -14.9 each year (2020–2025) ### Stress tests — macro-fiscal shocks (Augmented debt) - Primary Balance Shock assumptions (2020–2025): - Real GDP growth: 1.9, 7.9, 5.7, 5.6, 5.5, 5.4 - Inflation: 2.1, 1.6, 2.1, 2.1, 2.2, 2.2 - Primary balance: -14.9, -16.0, -15.1, -12.3, -11.4, -10.5 - Effective interest rate: 4.2, 3.5, 3.5, 3.5, 3.4, 3.4 - Real GDP Growth Shock assumptions: - Real GDP growth: 1.9, 6.5, 4.3, 5.6, 5.5, 5.4 - Inflation: 2.1, 1.2, 1.7, 2.1, 2.2, 2.2 - Primary balance: -14.9, -14.8, -14.6, -12.3, -11.4, -10.5 - Effective interest rate: 4.2, 3.5, 3.4, 3.4, 3.3, 3.3 - Real Interest Rate Shock assumptions: - Effective interest rate: 4.2, 3.5, 4.3, 5.0, 5.5, 5.9 - Real Exchange Rate Shock assumptions: - Inflation (2021) 3.9 (versus baseline 1.6) - Effective interest rate: 4.2, 3.5, 3.4, 3.3, 3.2, 3.2 - Combined Shock and Contingent Liability Shock scenarios included; contingent liability shock uses the DSA toolkit assumption summarized above. ### Risk assessment and market indicators (Augmented debt) - Bond spread (EMBIG) used: 239 (bp) average over 15-Aug-20 through 13-Nov-20. - Risk-assessment benchmarks cited: - Debt burden benchmark: 70% - Gross financing needs benchmark: 15% of GDP - Bond spread benchmarks: 200 and 600 basis points - External financing requirement benchmarks: 5 and 15 percent of GDP - Change in share of short-term debt benchmarks: 0.5 and 1 percent - Public debt held by non-residents benchmarks: 15 and 45 percent - Share of foreign-currency denominated debt benchmarks: 20 and 60 percent ### General budgetary (official) debt — Selected indicators and projections (As of November 13, 2020) - Nominal gross public debt (percent of GDP) by year: 25.8, 36.5, 38.1, 44.7, 47.2, 49.5, 51.2, 52.6, 53.8 - Public gross financing needs (percent of GDP) by year: 11.5, 9.8, 9.9, 16.5, 15.4, 14.7, 14.1, 13.6, 12.9 - Real GDP growth (in percent) by year: 8.1, 6.7, 6.1, 1.9, 7.9, 5.7, 5.6, 5.5, 5.4 - Inflation (GDP deflator, in percent) by year: 2.9, 3.5, 2.4, 2.1, 1.6, 2.1, 2.1, 2.2, 2.2 - Nominal GDP growth (in percent) by year: 11.3, 10.5, 8.6, 4.0, 9.6, 7.9, 7.7, 8.7, 7.7 - Effective interest rate (in percent) by year: 2.8, 2.5, 2.5, 2.6, 2.2, 2.2, 2.2, 2.2, 2.3 - Change in gross public sector debt (cumulative): 2.0, 0.3, 1.6, 6.6, 2.5, 2.3, 1.7, 1.4, 1.2, 15.7 - Identified debt-creating flows (cumulative): -0.6, 1.2, 3.4, 10.4, 7.1, 6.6, 5.6, 4.6, 3.8, 38.1 - Primary deficit (by year, percent of GDP): 1.1, 3.8, 5.5, 10.9, 10.0, 9.1, 8.1, 7.3, 6.5, 51.9 - Primary (noninterest) revenue and grants (percent of GDP) cumulative: 27.1, 28.3, 27.7, 24.5, 25.0, 25.3, 25.8, 26.5, 27.1, 154.3 - Primary (noninterest) expenditure (percent of GDP) cumulative: 28.2, 32.1, 33.1, 35.4, 35.0, 34.4, 34.0, 33.8, 33.6, 206.2 - Automatic debt dynamics (cumulative): -1.7, -2.6, -2.1, -0.5, -3.0, -2.5, -2.5, -2.7, -2.7, -13.8 - Of which: real interest rate (selected entries): 0.0, -0.4, 0.0, 0.0, 0.2, 0.2, 0.0, 0.0, 0.0, 0.4 - Of which: real GDP growth (cumulative): -1.7, -2.2, -2.1, -0.7, -3.2, -2.5, -2.6, -2.6, -2.6, -14.2 - Residual, including asset changes (cumulative): 2.7, -0.9, -1.8, -3.9, -4.6, -4.4, -3.9, -3.2, -2.6, -22.4 ### General budgetary debt scenarios, realism checks, and stress tests - Baseline assumptions for general budgetary debt: - Real GDP growth (2020–2025): 1.9, 7.9, 5.7, 5.6, 5.5, 5.4 - Inflation: 2.1, 1.6, 2.1, 2.1, 2.2, 2.2 - Primary Balance (percent of GDP): -10.9, -10.0, -9.1, -8.1, -7.3, -6.5 - Effective interest rate: 2.6, 2.2, 2.2, 2.2, 2.2, 2.3 - Historical scenario primary balance path: -10.9, -1.8, -1.8, -1.8, -1.8, -1.8 - Constant Primary Balance Scenario: primary balance -10.9 each year (2020–2025) - Stress test examples for general budgetary debt include Primary Balance Shock, Real GDP Growth Shock, Real Interest Rate Shock, Real Exchange Rate Shock, Combined Shock, and Contingent Liability Shock with detailed year-by-year assumptions shown in the source. ### Policy implications and recommended actions (from source framing) - Aggressively monitor contingent liabilities, including PPPs and SOE financial positions. - Actively mitigate and effectively manage SOE and PPP-related fiscal risks. - Preserve public debt headroom so potential realization of contingent liabilities does not cause undue market strain or abrupt fiscal tightening. *Source: IMF staff (China: Public Sector Debt Sustainability Analysis; figures and tables as of November 13, 2020).* ### Appendix IV. Implementation of Main Recommendations of the ### Appendix IV. Implementation of Main Recommendations of the 2019 Article IV Consultation ### Continue to rein in credit growth - Corporate deleveraging - NDRC issued a guideline on deleveraging in 2019, with an emphasis on debt-to -equity swap program, which allows creditors to convert the debt holding into equities. Jul-19 — Debt-equity swap has accelerated - Tackling local government debt - MOF established the Government Debt Research and Valuation Center to undertake statistical analysis and risk assessment of government debt, monitor compliance of the issuance and use of government bonds fund, and publish regularly government debt information. Nov-19 ### A more holistic approach towards financial regulation - PBC issued rules on financial holding companies. Sep-20 — Effective since November 1, 2020 - PBC published a three-year fintech development plan to strengthen Fintech regulation via building a sound system of fundamental fintech regulatory rules. Aug-19 — Implementation in progress - CBIRC issued a regulation on insurers' related-party transactions, aiming to stop the use of insurers as “ATM machines” and prevent risks. Aug-19 — Implemented - CBRIC set new regulatory requirements for banks’ wealth management subsidiaries, including a minimum net capital requirement of RMB 500 million or equivalent freely convertible currencies (and above 40 percent of net assets and 100 percent of risk-weighted assets). Nov-19 — Effective March 1, 2020 - PBC, CBIRC, CSRC, and SAFE jointly published rules on identifying standard credit assets, effective from Aug 3. Jun-20 — Implementation in progress - Given the impact of the pandemic, PBC, in conjunction with relevant agencies, extended the transition period of the new asset management rules by one year to end-2021. Jul-20 — Implementation in progress ### Overcapacity cut / Zombie exit - NDRC and 12 other ministries jointly issued a proposal to improve the mechanism for exit of market entities. Jun-19 — Implementation in progress ### Accelerating rebalancing efforts - Promoting lending to small and private firms - MOF and other ministries announced financial support measures to private and SMEs in pilot cities. During 2019-22, MOF will provide RMB 2 billion to about 60 pilot cities annually. The fund could be used to mitigate banks' credit risk, or to replenish capital for government guarantee schemes. Jul-19 — Implementation in progress - PBC issued the “Administrative Measures for Standardized Bills” to improve SME and supply chain financing. Jun-20 — Implementation in progress - CBIRC issued Assessment Guideline on commercial banks’ financial services to SMEs (for trial implementation). Jun-20 — Implementation in progress - FSDC issued a work plan on deepening reform and replenishment of small and medium-sized banks to accelerate their replenishment of capital. Jun-20 — To be implemented - Promoting consumption - MOFCOM issued guidance to promote consumption, calling for a close combination of resuming work and business with expanding domestic demand and consumption. Apr-20 — Implementation in progress - The State Council issued measures to help exporters explore domestic market. Jun-20 — Implementation in progress - Poverty reduction - NDRC issued the 2020 action plan of pro-consumption campaign to aid poverty alleviation and will carry out 30 specific actions jointly with other 27 departments. Mar-20 - MCA and the State Council Leading Group Office of Poverty Alleviation and Development issued action plan to provide a basic safety net for vulnerable groups. Mar-20 - MOF issued a guidance to further enhance supervision on the use of poverty alleviation fiscal funds. Jun-20 — Implementation in progress - Reducing urban-rural gap - The authorities announced plans to improve the market-based allocation of factors of production by closing the gap between rural and urban land markets, improving household registration policy in megacities, and easing restrictions on urban residency. Apr-20 — Implementation in progress - Promoting urbanization - The State Council announced measures to (i) eliminate hukou restrictions in cities with less than 3 million residents; (ii) relax it in cities with 3-5 million residents; and (iii) simplify it in cities with more than 5 million residents. Dec-19 — Implementation in progress - Tackling pollution - MEE has established and implemented a positive list of environmental impact assessment approval and a positive list of supervision and law enforcement to conduct classified supervision over enterprises. Mar-20 — Implemented - MOF, MEE and Shanghai Municipality jointly launched the National Green Development Fund, with a registered capital of RMB 88.5 billion. Jul-20 — Implemented - Healthcare Reform - The CPC central committee and the State Council announced measures to deepen medical insurance system reform and improve commercial health insurance, centralize drug procurement and promote generic drugs. Mar-20 — Implementation in progress - Fostering greater openness - Financial Commission unveiled 11 new financial opening-up measures. Jul-19 — Implementation in progress - SAFE promoted 12 measures to facilitate cross-border trade and investment. Oct-19 — Implemented - Restrictions on foreign shares ratio of domestic futures companies was cancelled. Jan-20 — Implemented - The authorities released a master plan for constructing the Hainan free trade port. Jun-20 — Implementation in progress - NDRC and MOFCOM issued the 2020 version of Negative List of Foreign Investment Access. Jun-20 — Implemented from July 23 - CSRC and CBIRC jointly issued rules to allow eligible foreign banks in China to apply for the qualification of securities investment fund custody business. Jul-20 — Implemented - MOFCOM released revised Working Measures for Complaints from Foreign Invested Enterprises. Aug-20 — Implemented - The city of Beijing set up a national comprehensive demonstration area in service opening-up. Sep-20 — Implemented ### Capital account liberalization - The Shanghai-London Stock Connect was officially launched, to allow listed companies to issue global depository receipts on the other exchange based on local rules and regulations. Jun-19 — Implemented - SAFE removed the investment quota for qualified foreign institutional investors (QFII) and RMB qualified foreign institutional investors (RQFII). Sep-19 — Implemented ### Tariff reductions - China cut the MFN tariff rate of 298 IT products. July-19 — Implemented from July 1 - Import tariffs were cut for 850 products effective Jan 1, 2020, and 176 IT products effective July 1, 2020. Dec-19 — Implemented ### Increasing the role of market forces - FX market reform - CFETS announced that banks participating in a daily operation to determine the RMB’s trading mid-point have phased out use of the counter-cyclical factor in the formula, which was introduced in May 2017. Oct-2020 — Implemented - PBC announced to reduce the reserve requirement ratio for foreign exchange risks in forward foreign exchange sales from 20 percent to zero. Oct-2020 — Implemented ### SOE reform - The authorities issued guidelines to optimize state capital by accelerating mixed-ownership reform. May-20 — To be implemented - The Central Committee for Deepening Overall Reform approved the three-year action plan for SOE reform (2020-22). Jun 30 — To be implemented ### Business environment - The authorities issued guideline to accelerate the improvement of its socialist market economy in the new era, highlighting market-based allocation of production factors. May-20 — Implementation in progress - The State Council published the “Regulations on Payment Protection for Small and Medium-sized Enterprises”. Jul-20 — Implemented - The State Council published Implementation Opinions on “Further Optimize Business Environment to Better Serve Market Entities.” Jul-20 — Implementation in progress - SAMR issued a circular to further optimize start-up services. Aug-20 — Implementation in progress - PBC, CSRC and NDRC jointly published ‘Notice on the Disposition of Default of Corporate Credit Bonds’, effective August 1, 2020. Jul-20 — Implementation in progress - CBIRC eased limits on Insurance companies’ equity investment. Jul-20 — Implementation in progress - CBIRC removed the restriction on foreign shareholding of personal insurance companies. Dec-19 — Effective January 1, 2020 - CSRC issued Guidelines for publicly listed infrastructure REITs. Aug-20 — Implementation in progress - CSRC proposed to abolish mandatory credit rating requirements for corporate bond issuance. Aug-20 — To be implemented ### Modernizing policy frameworks - Monetary Policy - PBC announced a reform of the LPR mechanism requiring banks to price their new loans based on the LPR. Aug-19 — Implemented - PBC required financial institutions to stop using the benchmark lending rate as the pricing reference for all credit from January 2020, while gradually converting existing loans to LPR or fixed rate from March 2020. By end-August 2020, over 92 percent of the outstanding floating interest rate bank loans have been shifted to the new benchmark. Dec-19 — Implemented - PBC organized the Interest Rate Self-regulatory Mechanism to propose a self-regulatory initiative, bringing the floor rate of structured deposit into the scope of self-regulatory management. Dec-19 — Implemented - Fiscal Policy - The State Council issued a new guideline on the division of responsibility between the central and local governments on 1/ education, 2/ transportation, 3/ distribution of tax revenue, 4/ public culture and 5/ natural disaster. - 1/ Jun-19 - 2/ July-19 - 3/ Oct-19 - 4/ Jun-20 - 5/ Jun-20 — Implementation in progress - MOF issued Administrative Measures for the Dynamic Monitoring of the Implementation of the Central Budget to strengthen the management and supervision of the implementation of the central budget. Jan-20 — Implementation in progress - MOF encouraged policy-based financial guarantee business to support SMEs. Apr-20 — Implementation in progress - MOF set up a special transfer payment system to ensure funds directly benefit the enterprises and people. Jun-20 — Implementation in progress - MOF and STA jointly issued preferential income tax plans for business and talents in Hainan FTP. Jun-20 — Effective between Jan 2020 to Dec 2024. - MOF, MIIT, MOST and NDRC jointly issued the Notice on improving fiscal Subsidy Policies for the Promotion and Application of New Energy Vehicles. Apr-20 — Immediate implementation - The State Council published a revised regulation on the implementation of the budget law, effective October 1, 2020. Aug-20 — Effective from Oct 1, 2020 - The authorities have introduced a series of policies to reduce tax and fees as follows: - 1/ preferential policy for community family services; 2/ strengthening management of illegal charges related to enterprises; 3/ tariff and tax policy supporting COVID-19 prevention and control; 4/ temporary fee reduction or exemption on social security fee; 5/ lowering rents for SMEs and individual business. - 1/ Jun-19 - 2/ Aug-19 - 3/ Feb-20 - 4/ Feb-20 - 5/ May-20 — Implementation in progress - Capital Market - The Standing Committee of the National People’s Congress approved new securities law with registration-based IPO system, effective from March 2020. Dec-19 — To be implemented - CSRC eased refinancing rules. Feb-20 — Implemented - CSRC and NDRC jointly issued circulars to launch registration-based issuance of enterprise/corporate bonds. Mar-20 — Implemented - CSRC issued multiple regulations to promote ChiNext reform and transit to a registration-based system. Jun-20 — Implementation in progress - CSRC allowed qualified National Equities Exchange and Quotations (NEEQ)-listed companies to switch listing board to STAR or ChiNext. Jun-20 — Implementation in progress - PBC and CSRC issued a joint announcement to connect interbank bond market and exchange bond market. Jul-20 — To be implemented ### Enhancing data quality and transparency - NBS circulated a draft law to penalize statistics manipulation, including to prevent and penalize illegal statistics-related practices at county or city level governments. Oct-2019 — To be implemented - Not yet announced: Publishing data on foreign exchange intervention — n/a *Source: Appendix IV. Implementation of Main Recommendations of the 2019 Article IV Consultation (content unit: 1chnea2021001) — extracted from the supplied PDF content.* ### Appendix V. Implementation of Main Recommendations from ### Appendix V. Implementation of Main Recommendations from China’s 2017 FSAP ### Macroeconomic recommendations - Recommendation: Reduce the relatively high GDP growth forecasts in national plans; these high forecasts encourage local governments to set high growth targets. - Priority: Highest - Timing: Near-term measures - Measures Taken: - The development objectives mentioned in the 2020 Report on the Work of the Government were to “prioritize employment and protect the people’s livelihood, resolutely win the battle against poverty, and strive to achieve the goals and tasks to comprehensively build a well-off society.” - No mention was made of a specific economic growth target for the year; instead, all areas were guided to soundly and successfully accomplish the “six stabilizations” work and comprehensively implement the “six protections” tasks. ### Systemic risk, macroprudential policies, and strengthening supervision - Recommendation: Newly establish a financial stability sub-committee and entrust it with the sole function of maintaining financial stability. - Priority: Highest - Timing: Near-term measures - Measures Taken: - In 2018, a new session of the Financial Stability and Development Committee under the State Council (FSDC) was established. - The office of the FSDC is housed at the PBC to strengthen planning and coordination for the financial sector serving the real economy, financial reform and opening, and prevention and defusing of financial risk. - As of September 11, 2020, the FSDC has held forty plenary meetings and more than ten ad hoc meetings. - Policy measures adopted: Stabilizing the macro-leverage ratio and managing shadow bank risks; deepening capital market reforms under “system-building, nonintervention, and zero tolerance”; resolving high-risk medium and small banks and promoting reforms for medium and small banks; maintaining stable and sound financial market operations and responding to external shocks and risks. - Recommendation: Establish vigorous mechanisms for cooperation, coordination, and information sharing with participants in domestic and foreign financial security networks, including the sharing of detailed financial data. - Priority: Highest - Timing: Near-term measures - Measures Taken: - Under FSDC leadership, financial regulatory agencies have established multiple work linkage mechanisms, enhanced policy coordination, and achieved policy synergies. - Local coordination: In January 2020 the FSDC office distributed the Opinion on the Establishment of Local Coordination Mechanisms, establishing coordination mechanisms for FSDC local offices at provincial level to “promote the sharing of financial information, and to establish regional mechanisms for the sharing of financial data and mechanisms for the timely communication and exchange of important events and emergencies in the financial services industry.” - Cross-border cooperation: As of the end of August 2020, the CBIRC has signed 122 bilateral memoranda of understanding regarding supervision cooperation or supervision cooperation agreements with financial regulatory agencies in 83 countries and regions. - The CSRC regularly reports to the FSB data of intermediary business by non-bank financial institutions that are subject to its supervision. - Recommendation: Trigger the countercyclical capital buffer, assess bank capital requirements, and implement targeted capital replenishment (in some cases, substantial replenishment). - Priority: Highest - Timing: Near-term measures - Measures Taken: - In September 2020, the PBC and the CBIRC jointly issued the Notice Concerning the Establishment of the Countercyclical Capital Buffer, explicitly establishing a countercyclical capital buffer and setting the initial countercyclical capital buffer ratio for bank financial institutions at 0. - Going forward, the PBC and the CBIRC will assess and adjust the countercyclical capital buffer ratio considering macroeconomic and financial conditions, the macro-leverage ratio level, the soundness of the banking system, and systemic financial risks. - Recommendation: Amend major laws to strengthen the operational and budgeting autonomy of the PBC and regulatory agencies and increase their resources. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - Regulatory agencies have adopted measures to strengthen team-building and increase supervision resources. - The CBIRC and CSRC have strengthened communication with relevant agencies, implemented central government requirements to strengthen grassroots regulatory agencies, and sought more budgetary support. - Recommendation: Resolve data gaps that constrain systemic risk monitoring and effective financial regulation and supervision. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - The PBC has accelerated development of a basic national financial database and collected basic financial data to support systemic risk monitoring. - The CBIRC has improved offsite supervisory reports and plans further refinements for on-balance-sheet investments, interbank operations, wealth management operations, and stock pledged financing in the 2021 reporting system. - The CSRC has built and continues to improve its central database covering account opening, entrustments, trading data for stock, bond, and futures markets; basic information of listed companies, securities and futures fund institutions and their employees; investor profits and losses; and international and domestic macroeconomic data. - Recommendation: Evaluate and simplify the objectives and structure of the PBC’s macroprudential assessments (MPAs), and only use them as a means of monitoring by the financial stability sub-committee and its subordinate agencies. - Priority: Medium - Measures Taken: - MPAs are used to guide reasonable growth of broad credit and money supply, and to prevent systemic financial risk. - The PBC has continually improved the MPA framework to develop incentive and constraint roles and increase the precision and effectiveness of monetary policy. ### Bank regulation and supervision - Recommendation: Strengthen risk supervision of financial holding group companies and upgrade supervision capabilities for banks and affiliated financial holding companies, including identification of ultimate beneficiary owners. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - In September 2020, the Provisional Measures for the Supervision and Administration of Financial Holding Companies were introduced, emphasizing comprehensive, ongoing, look-through supervision on a consolidated basis and “substance over form.” - Measures include more stringent shareholder qualification requirements, look-through equity structures, strengthened supervision of capital source authenticity and compliance in fund use, consolidated capital adequacy supervisory system, stricter debt risk controls, improved corporate governance, strengthened related-party transaction controls, and improved risk “firewall” systems. - Recommendation: Stop considering the effects of collateral in loan classifications, restrict loan rollover to non-medium and small enterprise borrowers, and categorize all loans that are 90 days or more past due as non-performing loans. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - The CBIRC is drafting Provisional Measures for the Risk Classification of the Financial Assets of Commercial Banks. - Recommendation: Strengthen implementation of “look-through” principles. - Priority: Medium - Measures Taken: - Detailed rules supporting the Guiding Opinions on Standardization of Financial Institution Asset Management Operations continue to be released. - On February 25, 2020, the CBIRC issued the Provisional Measures on the Administration of Insurance Asset Management Products (effective May 1), establishing strict standards: removing implicit guarantee for redemption, eliminating multi-layer nesting, de-channeling, prohibiting fund pooling operations, and restricting maturity mismatches, consistent with the New Asset Management Rules. - CBIRC has formulated Provisional Measures for the Administration of Trust Company Fund Trusts (public comment stage) to embody “look-through” principles; regular troubleshooting and two-way “look-through” inspections are conducted. - Technology-powered inspections: CBIRC built an intelligent inspection big data platform and developed capital flow analytical tools to trace fund flows and identify ultimate controlling owners. - Since 2017, CBIRC special projects have emphasized applying “look-through” supervision to onsite inspections, equity management, corporate governance, and reducing high-risk shadow bank assets. - Recommendation: Increase liquidity coverage ratio requirements for interbank and off-balance-sheet products. - Priority: Medium - Measures Taken: No updates. - Recommendation: Increase supervision reporting requirements and collect more detailed supervision data, including bank investment information and corresponding provisions. - Priority: Medium - Measures Taken: - The offsite reporting system has been continually improved; CBIRC plans to refine statistics for on-balance-sheet investments and provisions in the 2021 reporting system. - In 2018, CBIRC issued the Guidelines for the Data Governance of Bank Financial Institutions. - In 2020, CBIRC initiated a special governance project for supervision data quality covering all banking and insurance institutions, requiring self-examinations and inspections to improve supervision data quality. - Recommendation: Strengthen CBIRC forward-looking comprehensive risk analysis to identify vulnerabilities and encourage intervention before the fact. - Priority: Medium - Measures Taken: - Development of the Risk Early Warning Analysis Supporting System (REASS) has continued with upgrades and additional indicators. - Regular stress testing and ICAAP are conducted; differentiated “one bank, one policy” supervision is implemented for vulnerable banks. - Market analysis, trend research, risk warnings, and proposals for response measures have been strengthened. - Supervision of corporate governance and prudential supervision has been strengthened to identify and resolve major prudential risks early, improve compliance supervision, and withdraw non-compliant or high-risk products. ### Stress testing - Recommendation: Increase data and information sharing among the “one bank and three commissions” and use more detailed supervision data in stress testing. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - Financial regulatory agencies already share statistical data on TSF, money and credit, banking operations and risks, and securities and futures markets; breadth and depth of data shared have both increased. - The PBC continues stress testing for macroeconomic downturns, liquidity stress, interbank defaults, and pandemic-related vulnerabilities using internal and supervisory data with increased granularity (historical non-performing asset trends, classification of interest-bearing assets and liabilities, bond investment types, measurement of capital adequacy ratio). - CBIRC uses refined, look-through data in bank stress testing including detailed interbank financing, interbank investment, and derivative products. - CSRC established regular stress testing mechanisms for important capital market institutions and is expanding test data scope; China Futures Market Monitoring Center submits customer account, transaction, position, and funding data to China Securities Data Company Ltd. to aggregate across markets. - Recommendation: Expand systemic risk assessments to cover non-banking institutions and integrate stress testing for collective investment plans. - Priority: Medium - Measures Taken: - In 2020 bank stress testing, the PBC used a network analysis model to assess business relationships and risk transmission among banks and between banks and non-banking institutions. - Macro scenario stress tests considered impacts on capital adequacy ratio from non-standard credit investments, off-balance-sheet operations, and bonds valued using amortized cost approach; liquidity tests considered wealth management redemptions’ impact on bank liquidity. - CBIRC studies coordinated stress testing across banking, insurance, and large and medium-sized trust institutions; incorporated trust liquidity and credit risk stress testing into comprehensive risk screening; regularly conducts stress testing for asset management companies. - Recommendation: Strengthen inter-agency coordination and analytical capabilities of stress testing teams. - Priority: Medium - Measures Taken: - PBC strengthened internal departmental coordination; macro stress scenario design references PBC Research Bureau models; a stress testing group with headquarters, branches, and commercial bank members holds regular technical exchanges. - CBIRC coordinates full participation of agencies and local branches in supervisory stress testing design and verification; stress test training and industry exchanges are regular. - CSRC conducts uniform scenario stress testing, studies scenario indicators, and has mechanisms for cooperation and data sharing with PBC and CBIRC. ### Shadow banking and implicit guarantees - Recommendation: Amend laws or supervisory regulations to ensure bankruptcy remoteness of collective investment plans (including wealth management products) when a manager or custodian goes bankrupt. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - Regulatory measures implemented: Guiding Opinions on Standardizing Financial Institution Asset Management Operations; Administrative Measures on the Supervision of Commercial Bank Wealth Management Operations; Provisional Measures on the Administration of Insurance Asset Management Products; Provisional Measures for the Administration of Trust Company Fund Trusts (public comment stage). These establish requirements on risk isolation, smashing rigid redemption, and full disclosure. - Recommendation: Conditioned on elimination of implicit guarantees, gradually eliminate credit restrictions on certain industries. - Priority: Medium - Measures Taken: - Financial institutions are guided to strengthen support for talent and intelligence pools in high-tech manufacturing and upgrading traditional industries, enhance industry risk assessment capabilities, and continue support for upgrading basic industrial capacity and standards. - Recommendation: Limit intervention measures in capital markets (including real estate and stock markets) to those responding to systemic risk. - Priority: Medium - Measures Taken: - The CSRC upholds “system-building, non-intervention, and zero tolerance,” formulates dynamic response plans for substantial market volatility, increases tolerance of market volatility, and intervenes decisively only when systemic risks or extreme situations occur. ### Regulation and supervision of securities markets - Recommendation: Improve information disclosure for collective investment plans and prohibit stating anticipated rates of return in wealth management product prospectuses. - Priority: Highest - Timing: Near-term measures - Measures Taken: No updates. - Recommendation: Introduce functional supervision to ensure similar products issued by different financial institutions are subject to similar supervision. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - Transition period for the New Asset Management Rules was extended to the end of 2021 (decision in July 2020). - Incentive and constraint mechanisms and supporting policies were improved to standardize the asset management industry. - PBC coordinated with CBIRC and CSRC to implement functional supervision in detailed regulations for bank wealth management, wealth management subsidiaries, securities fund and futures, and trust and insurance industries. - CBIRC improved policy documents supporting the New Asset Management Rules and supervised trust companies’ implementation; Provisional Measures for the Administration of Trust Company Fund Trusts (public comment stage) referenced New Asset Management Rules to control maturity mismatches, restrict nested investments, control leverage and concentration, strengthen investor suitability, and sales compliance. - Recommendation: Strictly control repo collateral qualifications and improve discount rate calculation methodology. - Priority: Medium - Measures Taken: - CSRC instructed China Securities Depository and Clearing Corporation Ltd. to strengthen risk monitoring of pledged bonds and develop dynamic management mechanisms, apply internal bond credit ratings and market implied ratings, dynamically adjust repo qualifications and discount coefficients based on credit and liquidity risks. - China Securities Depository and Clearing Corporation Ltd. continues to improve the prudent standard bond discount rate calculation methodology, emphasizing countercyclical adjustment and autonomous risk adjustment estimates for discount rates. - Recommendation: Strengthen systemic risk monitoring mechanisms across securities markets and other financial sectors. - Priority: Medium - Measures Taken: - PBC strengthened bond market default risk monitoring and calculates bond market default rates monthly for various scopes. - CSRC established a stock market risk monitoring and response leadership group and normalized meeting mechanism to assess risks, communicate, and plan responses. - CSRC is developing a stock market risk monitoring model combining economic fundamentals, market structure, sentiment, trends, and risk transmission; evaluates overall bond market credit risk regularly and strengthens early warnings for high-risk bonds. - CSRC strengthened monitoring of stock pledging operations and private securities funds, prepared monitoring indicators, and conducts stress testing for securities and futures fund broker-dealer institutions. - Progress on a central platform for supervision information for securities and futures industry aims to aggregate macro, meso, and micro data to build a comprehensive systemic risk index model. ### Regulation and supervision of insurance - Recommendation: Formulate a risk-based supervision plan that incorporates all issues and conduct of each insurance company (including market conduct). - Priority: Medium - Measures Taken: - Provisions on the Administration of the Solvency of Insurance Companies were amended and released for public comment in July 2020 to strengthen risk-oriented solvency supervision. - Second Phase Project of the China Risk-Oriented Solvency System initiated to comprehensively revise supervision rules, increase risk orientation, and improve risk measurement. - Work to amend Measures for the Administration of Insurance Group Companies is progressing to amend rules on market entry and exit, fund utilization, risk management, and information disclosure; consolidation supervision indicators established; corporate governance assessments and onsite inspections begun. - The Notice on Improving Valuation Interest Rate Formation Mechanism for Personal Insurance Liability Reserves introduced to optimize valuation interest rate formation and guard against interest spread loss risk. - Supervision files and annual supervision assessments for personal insurance companies established; risk monitoring strengthened via Notice on Further Strengthening of Personal Insurance Market Risk Monitoring Work. - Provisional Measures for the Offsite Supervision of Insurance Companies were studied and formulated. - Training and market order standardization for intermediary channels of insurance companies have begun. - Recommendation: Formulate a plan to gradually use more market-oriented means of valuation. - Priority: Medium - Measures Taken: No updates. ### Supervision of financial market infrastructure - Recommendation: China Securities Depository and Clearing Corporation Ltd. should make full use of delivery-versus-payment (DVP). - Priority: Highest - Timing: Near-term measures - Measures Taken: - CSRC has incorporated “improve the registration and clearing system, and initiate reform of the A-share DVP clearing model” into key work tasks. - Since 2018, CSRC arranged for China Clearing to study and formulate a DVP reform plan; consultations and surveys have produced a basic consensus for reform. - Recommendation: Fully implement CPMI/IOSCO principles and strengthen legal framework to increase resilience of financial market infrastructure. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - PBC (February 2020) printed and distributed the Work Plan for Coordinating and Supervising Financial Infrastructure, clarifying six types of facilities (financial asset registration and custody systems, clearing and settlement systems including central counterparties, trading facilities, transaction report libraries, important payment systems, and basic credit information system) within coordination and supervision scope; established uniform supervision standards and improved governance. - PFMI: In January 2020, evaluation of qualified central counterparties (QCCPs) for the Shanghai Gold Exchange was completed. - CSRC: Implemented new Securities Law, progressed amendment of Measures for the Administration of Securities Registration and Settlement, and amended Measures for the Administration of Futures Exchanges to clarify Financial Market Infrastructure Principles at departmental level. - Recommendation: Extend central bank services to all systemically-important central counterparties. - Priority: Medium - Measures Taken: - Currently PBC provides settlement services to China Central Depository & Clearing Co., Ltd., Shanghai Clearing House, and Shanghai Gold Exchange. - PBC is considering extending settlement services to China Securities Depository & Clearing Corporation Ltd. and four futures exchanges, noting potential moral hazard and system planning needed and system/business logic conversion time required. ### Anti-money laundering and combating the financing of terrorism (AML/CFT) - Recommendation: Adopt stronger customer due diligence measures with respect to domestic political and public figures based on risk. - Priority: Medium - Measures Taken: - China is considering amendments to the Anti-Money Laundering Law and regulations regarding customer due diligence for domestic political and public figures. - Recommendation: Ensure more effective investigations for acts of self-laundering and prosecute them as independent convictions. - Priority: Medium - Measures Taken: - China is amending the Criminal Law to consider making acts of self-laundering independent convictions. ### Crisis management - Recommendation: Clarify conditions that trigger government-led crisis responses and limit them to systemic events requiring public resources. - Priority: Highest - Timing: Near-term measures - Measures Taken: - CSRC, under FSDC coordination, has formulated plans to respond to major capital market volatility with clearer trigger conditions. - Response principles: respect market rules and not intervene under ordinary circumstances; decisively adopt response measures when systemic risk or other extreme situations occur. - CSRC defined crisis response trigger conditions based on market development and national conditions and formulated corresponding risk response mechanisms. - Recommendation: Formulate special resolution mechanisms for banks and systemically important insurance companies. - Priority: Highest - Timing: Medium-term measures - Measures Taken: - On September 30, 2020, PBC and CBIRC began soliciting public comment on the Administrative Measures on the Total Loss Absorption Capacity of Global Systemically Important Banks (Draft for Comments), establishing total loss absorption capacity requirements and explicit requirements for ratios, composition, supervision inspections, and information disclosure. - PBC drafted Operating Guidelines for Early Corrective Actions for Deposit Insurance (Provisional). - PBC and CBIRC established a “joint discussions and joint research” working mechanism for prompt risk announcements and defusing progress. - A plenary meeting of the four-bank (ICBC, ABC, BOC, and CCB) cross-border crisis management working group was convened in 2019 to review recovery and resolution plans and require improvements in stress testing, early warning systems, recovery plan operability, consolidation management, and tracking effects of financial policy reforms. - Recommendation: PBC should formulate a formal emergency liquidity bail-out framework. - Priority: Highest - Timing: Medium-term measures - Measures Taken: No updates. - Recommendation: Upgrade institutional design of protection funds to limit moral hazard. - Priority: Medium - Measures Taken: - Deposit insurance funds: continued premium collection and fund management, improved mechanisms for risk-adjusted premium rates, quarterly monitoring of insured institutions’ risk conditions, intensified verification, and use of risk warnings and early corrective actions. - Trust protection funds: systems actively studied and improved. - Insurance protection funds: studied risk premium rates and draft risk premium rate collection system; research into scope and standards for policy relief initiated and initial recommendations proposed. ### Inclusive finance and FinTech supervision - Recommendation: Upgrade legal, regulatory, and supervision framework for financial technology. - Priority: Medium - Measures Taken: - PBC upholds “two-handed grasp” of development and supervision; promoted Financial Technology (FinTech) Development Plan; strengthened top-level design of FinTech supervision to include innovative supervision tools, supervision rules, and digital supervision. - Pilot projects in nine regions: Beijing, Shanghai, Chongqing, Chengdu, Shenzhen, Guangzhou, Xiong’an, Hangzhou, and Suzhou. - Digital supervision: use of AI (natural language processing, knowledge graphs, deep learning) to formalize and digitize supervision rules and increase regulatory penetration. - CBIRC researching application of FinTech by banking and insurance institutions and preparing basic supervision rules for AI, blockchain, and biometrics applications. - CSRC established a financial technology supervision working committee and a technology supervision bureau to form a four-in-one system (technology supervision bureau, information center, China Securities Data, China Securities Technology Co., Ltd.); improved filing administration for securities service IT institutions and mobile apps; pilots for innovative capital market FinTech; formulated relevant technical standards. *Information as reported by the authorities, with IMF staff providing translation.* ### 66.1 percent in the first three quarters. ### 1chnea2021001 - 66.1 percent in the first three quarters. ### Recent Economic Developments - The outbreak was brought under effective control, allowing resumption of work and production and paving the way for a steady recovery. - In the first three quarters of this year, the Chinese economy recorded a positive 0.7 percent growth. - Growth momentum pickup has been broad-based across industrial and service sectors. - Growth of retail sales of consumer goods in October accelerated to 4.3 percent year-on-year. - Manufacturing PMI has been staying above 50 for nine consecutive months. - Consumer prices and employment rates have remained basically stable. - FDI has continued to grow. - Total value of import and export of goods in the first ten months increased by 1.1 percent year-on-year, of which exports increased by 2.4 percent and imports declined by 0.5 percent. - China’s steady recovery has contributed substantially to the global recovery. - China’s economy is expected to register a positive growth of about 2 percent in 2020. - Growth is expected to pick up further in 2021 from a relatively low base in 2020. ### Fiscal Policy - China’s fiscal revenue declined 5.5 percent year-on-year in the first 10 months of this year. - Tax revenue increased by 11.2 percent in October, the highest single-month growth so far this year. - Authorities are committed to continue a proactive fiscal policy, with emphasis on improving its effectiveness and preventing and mitigating potential risks associated with local government debt. - Disagreement reiterated with staff’s concept of augmented deficit and debt; debt issued by LGFVs after 2014 should be considered corporate debt rather than public debt according to the authorities. ### Monetary Policy and PBC Actions - The People’s Bank of China (PBC) supportive measures have amounted to around 9 percent of GDP. - Since the beginning of this year, RMB 1.75 trillion of liquidity has been released into the banking system by lowering the RRR three times. - RMB 1.8 trillion of liquidity has been provided through central bank lending and discount window. - The weighted average interest rate of newly issued corporate loans declined to 4.64 percent at the end of June 2020, 48 basis points lower than that of the end of 2019. - Main interest rates in the money and bond markets are significantly lower compared to the previous year. - PBC will pursue prudent monetary policy in a flexible, fine-tuned, and targeted manner to balance growth and manage risks. - Efforts to enhance structured monetary policy tools for precise liquidity injection will continue. - Policy measures will continue to assist small, micro, and private companies, stabilize employment, and promote green development to support the “dual-circulation” development pattern. - RMB’s purchasing power has remained basically stable; exchange rate moves based on market supply and demand with increased flexibility. - PBC has had little FX interventions in recent years and will continue to maintain flexibility of the RMB exchange rate and rationalize market expectations. - China has fulfilled the data disclosure commitment to the Fund regarding the inclusion of RMB into SDR basket. ### Managing Financial Sector Risks - Prior to COVID-19, excessive growth in the macro leverage ratio had been effectively brought under control; counter-cyclical adjustments in response to COVID-19 have increased the macro leverage ratio. - With steady recovery, macro leverage ratio is expected to stabilize and decline gradually. - Authorities have taken differentiated and tailored policies for troubled banks; major risks resolved in an orderly manner and market discipline strengthened. - Recent stress test shows banking sector is resilient to severe shocks; risks facing most small- and medium-sized banks well under control; overall loss absorption capacity remains strong. - As of the end of 2020 Q3: - Capital adequacy ratio of the banking sector was 14.41 percent. - Non-performing loan (NPL) ratio of the banking sector was 1.96 percent. - PBC and China Banking and Insurance Regulatory Commission (CBIRC) have asked commercial banks to increase provisions and strengthen NPL resolution. - Draft amended Law of the People’s Bank of China issued to strengthen PBC operational authority and provide legal basis for issuing digital RMB; proposed amendments to strengthen macro-prudential management and coordinate supervision of systemically important financial institutions and financial holding companies. - Draft amended Commercial Bank Law issued in October 2020 to improve governance, enhance board role and independent directors, strengthen macro-prudential and risk management requirements, and raise penalties for violations. - Orderly bank resolution mechanism strengthened through risk rating and alerting, early correction, restructurings, takeovers, and bankruptcies. - New requirements introduced regarding protection of the rights of financial consumers. - Fintech regulatory framework refined; coordination among regulatory authorities strengthened. - State Administration for Market Regulation (SAMR) issued consultation draft of Anti-Monopoly Guidelines on the Sector of Platform Economies to prevent monopolistic behavior by internet platforms and ensure fair competition. - Measures to contain risks related to internet financing and illegal fund-raising have been strengthened. - Policy response to COVID-19 has increased public and corporate debt levels and may raise the NPL ratio; measures to address these include increasing provisioning requirements, strengthening NPL treatment, raising capital for some local banks, and establishing a bank resolution mechanism. - Authorities consider a temporary fiscally backed centralized resolution fund (as suggested by staff) may not facilitate market-based incentives and risk-constraining resolution mechanisms. ### State-Owned Enterprise (SOE) Reform - SOE reform has made steady progress while strengthening modern corporate governance based on competitive neutrality. - Market-oriented operation system facilitated with formation of a career manager system and improvement in the incentive system. - 95 percent of zombie firms on the national level has been disposed of, and non-viable firms have been or will be liquidated. - Viable SOEs are improving efficiency and profitability to offset downward pressure. - SOEs played pivotal roles in combating COVID-19, reopening the economy, and stabilizing the job market. - Average coupon rate for newly issued SOE bonds reached 5.7 percent in October, one percentage point higher than that of the first three quarters. - Financing cost of Chinese companies, including SOEs, is higher than most comparable companies in developed countries with very low or negative interest rates. - Caution advised when using the perception-based “implicit guarantee” concept; recent SOE bond defaults have led investors to reprice risks. ### E-CNY - PBC is carefully designing and testing the e-CNY and advancing the work in a very cautious manner, paying special attention to protection of privacy and avoiding potential negative effects. - China will actively participate in international communication and discussions to work on best practices. ### Debt Service Suspension Initiative (DSSI) - China’s total suspended collection of debt service payments has amounted to USD 2.5 billion, the largest contribution among G20 members. - China will make more effort in this regard. - Challenge noted: total bilateral official credit only account for one third of total debt in low income countries. ### Targeting Vulnerable Groups and Relieving Poverty - Fiscal support has targeted the most vulnerable households and firms by increasing transfers, unemployment benefits, and strengthening the social security system. - In the first three quarters, expenditure on social security and employment subsidies has increased by 8.2 percent. - Authorities introduced an unemployment allowance scheme, raised unemployment insurance benefits, prioritized budget arrangements for people’s livelihood, and intensified supervision of the use of funds. - The authorities endeavored to ensure no single poor area or individual would be left behind and committed to ending absolute poverty by 2020. - All severely impoverished 832 counties in China have successfully eliminated absolute poverty by this November. - In the first three quarters of this year, real rural per capita income grew 1.9 percentage points faster than urban per capita income. - Ratio of urban to rural per capita income narrowed to 2.67 from 2.75 a year earlier. - Number of people who live in poverty reduced from 98.99 million at the end of 2012 to 5.51 million at the end of 2019. - Low income and fragile people benefited from reduced or avoided unemployment and free treatment of COVID-19 cases by the medical system. ### Trade, Opening Up, and “Dual Circulation” - Total value of import and export of goods in the first ten months increased by 1.1 percent year-on-year; exports increased by 2.4 percent and imports declined by 0.5 percent. - COVID-19 and unfair export control measures taken by the U.S. impacted Chinese purchases of U.S. goods and services this year. - Restrictive and discriminatory action against Chinese firms should be stopped to create conditions for implementation of the Phase 1 trade deal. - Countries should enhance mutual trust, share information, refrain from trade restrictions, and take measures to maintain normal functioning of global supply chains. - Signing of the Regional Comprehensive Economic Partnership (RCEP) agreement represents a new milestone for international economic integration. - China concurs that China and trading partners should work together to build a more open, stable, and transparent rules-based international trade system. - “Dual circulation” strategy relies more on domestic demand while broadening access to Chinese markets and expanding international economic cooperation. - China will continue to expand global economic linkage and cooperation: signing of RCEP, negotiation of bilateral investment agreement with EU, continued effort to reform WTO, and negotiation and implementation of trade deal with the USA cited as part of the effort. - China’s current account surplus is expected to temporarily widen this year, mainly reflecting the surge in pandemic-related exports, declines in outbound tourism and commodity prices. ### Climate Change and Green Finance - China aims to have CO2 emissions peak before 2030 and achieve carbon neutrality before 2060. - At end of 2019, China’s carbon intensity declined by 48.1 percent from the 2005 level. - Share of clean energy in China’s total energy consumption increased to 23.4 percent, compared to 22.1 percent one year ago. - Carbon emissions per unit of GDP in China have fallen by more than 50 percent from 2005 to 2019. - China has established the carbon trading market covering high-carbon emitting industries; as of August 2020, cumulative transactions reached RMB 9.3 billion. - China has established one of the most developed green bond markets in the world; the central bank recently issued comprehensive policy guidance to further implement green financing in banking system and capital market. - Going forward, China will support a green recovery through green finance, innovative green financial products, more investments into green industries in line with market principles, and a low-carbon green growth model. - China will continue to promote establishment of a fair, reasonable, and win-win global climate governance system and strive to fulfill global responsibilities commensurate with China’s development level. ### Other Issues - Some government-led projects (such as infrastructure investment) may have had their positive externalities underestimated by staff; Fund calculations focus on financial returns rather than broader economic returns. - China disputes staff’s assertion that “China can lead on global solutions to overcome global crisis” as over-estimation and a call for more multilateral cooperation. - Remarks on individual Director’s accusations on China’s policy to safeguard sovereignty and social stability in HK SAR and XinJiang province were not addressed in detail, characterized as legacy issues of colonialism or related to anti-extremism and anti-terrorism. *Source: 1chnea2021001 - 66.1 percent in the first three quarters.* --- _Source: https://www.imf.org/-/media/files/publications/cr/2021/english/1chnea2021001.pdf_