Public Information Notice: IMF Concludes 2003 Article IV Consultation with the People's Republic of China

November 18, 2003

Text in Chinese

Public Information Notices (PINs) are issued, (i) at the request of a member country, following the conclusion of the Article IV consultation for countries seeking to make known the views of the IMF to the public. This action is intended to strengthen IMF surveillance over the economic policies of member countries by increasing the transparency of the IMF's assessment of these policies; and (ii) following policy discussions in the Executive Board at the decision of the Board.

On October 31, 2003, the International Monetary Fund's (IMF) Executive Board concluded the Article IV consultation with China.1


Over the last few years, China has maintained its strong growth momentum and continued its rapid integration into the global economy. Despite the difficult world economic environment and domestic uncertainties, China's GDP growth has remained above 7½ percent in recent years, supported by appropriate macroeconomic policies and structural reforms. Spurred by accession to the WTO in December 2001, China's exports have expanded rapidly. At the same time, robust domestic demand and further market opening under China's WTO commitments have also led to strong import growth.

Real GDP grew by 8 percent in 2002, underpinned by the strength of exports and fixed investment, which registered growth rates of 22 percent and 17 percent, respectively. In 2003, the outbreak of Severe Acute Respiratory Syndrome (SARS) in the second quarter temporarily dampened GDP growth as activity in the services sector weakened. However, external trade continued to expand rapidly, and the services sector appears to have made a quick rebound. In the first three quarters of 2003, GDP grew by 8½ percent (year-on-year), led by strong fixed investment. Deflationary pressures have been easing. After declining by 0.8 percent in 2002, consumer prices increased by 0.7 percent in the first nine months of 2003. Despite the strong GDP growth, unemployment continues to rise; registered unemployment in the urban areas increased to 4 percent in 2002, up 0.4 percentage points from 2001. The level of surplus labor in the agricultural sector is estimated to be larger, and rural-urban income disparities have continued to widen.

China's overall external position has strengthened further. The current account surplus rose from 1½ percent of GDP in 2001 to 2¾ percent in 2002, mainly on account of increases in the trade surplus and private transfers. The financial account posted another large surplus in 2002, as foreign direct investment (FDI) inflows amounted to $53 billion and there was a repatriation of other capital from abroad. Official reserves increased by $76 billion in 2002. In the first 9 months of 2003, the trade surplus declined sharply as imports surged by 41 percent, while exports grew by 32 percent. However, official reserves rose by $98 billion, reaching $393 billion by end-September (equivalent to around 10½ months of imports). While FDI inflows have remained strong, the pickup in the pace of reserve accumulation in 2003 mostly reflects other capital inflows.

As the economy rebounded from the SARS epidemic, growth has picked up in the second half of 2003 and is now projected to reach 8½ percent for the year. Economic activity should remain strong in 2004, with the economy growing at about an 8 percent annual rate. Prices are expected to post small increases over the next year and one half, as the effects of some increases in commodity and food prices would more than offset downward pressures from supply-side factors, including lower tariffs and ongoing productivity gains. The external current account surplus would decline somewhat, as further WTO-related trade liberalization boosts imports, while export growth would slow down from the very high rates recorded over the last year. Sizable net capital inflows, including FDI, are likely to continue, and the external position is expected to remain strong.

With regard to structural reforms, in the banking sector, stricter prudential regulations and improving lending practices have contributed to a decline in the reported ratio of nonperforming loans to total loans, and asset management companies have made progress in recovering distressed assets. In the state-owned enterprise (SOE) sector, the government has continued to introduce shareholding and modern management systems into large SOEs, while exiting from the smaller enterprises. Since 1997, more than 27 million workers have been laid off as a result of closing of loss-making SOEs and reduction of redundant employees. To mitigate the social impact of reforms, the authorities have taken steps to strengthen the social safety net, including by increasing pension payments, widening coverage of the unemployment insurance and urban minimum living allowance assurance schemes, and providing assistance to laid-off workers for finding new employment.

Executive Board Assessment

Executive Directors commended the Chinese authorities for the economy's impressive output growth and further integration with the global economy. While near-term economic prospects generally remain favorable, Directors cautioned that continued strong investment activity and rapid money and credit growth could lead to a buildup of imbalances in some sectors of the economy. Directors also emphasized that medium-term prospects depend critically on the pace of structural reforms, especially for the banking system, the state-owned enterprises (SOEs), and labor markets.

Directors welcomed the measures the authorities have taken to curb growth of monetary and credit aggregates and, in particular, lending to the real estate sector. However, Directors called for stronger action to rein in excessive credit growth and curb potential overinvestment in some sectors of the economy. Continued strong credit growth could affect the overall quality of the loan portfolio of state banks, adding to the nonperforming loan problems these institutions already face.

Most Directors noted that there is no clear evidence that the renminbi is substantially undervalued at this juncture. Directors also felt that a currency revaluation would not by itself have a major impact on global current account imbalances—particularly given China's relatively small share in world trade. Nevertheless, Directors considered that the rapid build-up of foreign exchange reserves indicates some pressure on the exchange rate and imposes costs on the Chinese economy, especially difficulties in preventing excessive monetary expansion. In this context, Directors observed that increased flexibility of the exchange rate over time would be in the best interest of China. In particular, it would allow more room to pursue an independent monetary policy, help cushion China's economy against adverse shocks, and facilitate adjustment to the major structural reforms that are underway. Directors considered that China could, in a phased manner, introduce more flexibility to its exchange rate without causing major disruptions to its economy. Most Directors stressed that a move toward flexibility should be carefully planned and sequenced with ongoing structural reforms that are crucial to its success, and emphasized the need to move speedily with these reforms. They felt that the timing of a shift toward greater exchange rate flexibility should be left to the authorities to decide. A number of Directors, however, felt that the authorities should take advantage of the present circumstances to take quickly an initial step toward greater exchange rate flexibility. Directors underscored the need to improve the functioning of the foreign exchange market by eliminating trading restrictions and surrender requirements, widening the base of participants, and developing instruments for foreign exchange risk management.

Directors supported the authorities' gradual approach to capital account liberalization, observing that a key prerequisite for liberalization is a well-capitalized and sound banking system. They welcomed the implementation of the Qualified Foreign Institutional Investor scheme, and considered that the strong external position provided the right environment for the launching of the Qualified Domestic Institutional Investor scheme and other initiatives aimed at removing some of the restrictions on overseas investment by Chinese residents. Directors noted, however, that while these initiatives are useful, they will not have a substantial impact on capital flows in the short run, and they would not be effective substitutes for moving toward greater exchange rate flexibility.

Directors cautioned that the medium- and longer-term fiscal outlook remains a source of vulnerability. They pointed to the substantial future demands that may be placed on the budget to meet quasi-fiscal liabilities in the financial sector and the pension system, the costs of restructuring SOEs, and increased demands for social services—in part associated with an aging population. Against this background, Directors welcomed the good prospects for meeting the authorities' target for this year's fiscal deficit. Given a likely over-performance on revenues, Directors urged the authorities to stick to budgeted levels for spending and to use the additional revenue to reduce tax refunds owed to exporters and to further consolidate the fiscal position. Directors welcomed the authorities' intention to keep the level of the fiscal deficit roughly unchanged in nominal terms over the next few years, which will imply a declining trend in the deficit relative to GDP. In addition, they supported the authorities' efforts to establish a framework of three-year rolling fiscal forecasts that will set fiscal policy in a medium-term context.

Directors emphasized that a number of important reforms will provide crucial support to fiscal adjustment. They supported the ongoing efforts to improve tax administration and the tax structure, including shifting VAT from a production to a consumption base and extending it to services. They underscored the importance of allowing for rising social expenditure needs and of improvements in public expenditure management through better prioritization. Directors noted that these reforms would have implications for lower levels of government, and stressed that local governments should have sufficient fiscal resources to carry out their responsibilities. In this context, Directors supported a more comprehensive reform of center-local fiscal relations, including improved reporting by the provinces. They also encouraged a stronger effort to improve fiscal transparency, especially regarding quasi-fiscal liabilities and off-budget activities.

While recognizing that progress has been made on financial sector reform, including the establishment of the new China Banking Regulatory Commission, Directors stressed that much remains to be done to establish a sound and competitive banking system. They looked forward to the development of a comprehensive reform plan for state-owned banks. They also stressed the need to continue to reduce the large stock of non-performing loans and curb the flow of new ones. This will require a strengthened regulatory regime, including an improved legal framework for creditor rights, foreclosures, and bankruptcy procedures. Directors encouraged the authorities to reduce the tax burden on financial institutions, including through the allowance of full deductibility for loan-loss provisions and a shift in the business tax from a gross-interest to a net-interest basis. Moving ahead expeditiously to liberalize lending rates was also generally supported, as it would help banks increase their commercial orientation by learning to price risk appropriately. Directors welcomed the authorities' intention to provide additional capital injections in the state-owned commercial banks only when the banks have demonstrated substantial improvements in performance and governance, and recommended that such decisions be made in the context of clear plans regarding the future ownership structure of the state-owned banks.

Directors commended the start of work on a self-assessment of the financial sector. They recommended that China participate soon in the Financial Sector Assessment Program, as this could help in formulating the next steps in financial sector reform. Directors welcomed the recent implementation of the Anti-Money Laundering Administrative Rules for financial institutions and encouraged the authorities to continue with their efforts to improve the regime for combating terrorism financing.

Directors underscored the importance of pushing forward with the reform of the SOEs, including changes in the ownership structure. They welcomed the establishment of the State Asset Supervision and Administration Commission of the State Council, and urged the authorities to establish transparent procedures and the market infrastructure for the sale of assets to ensure that the state receives fair value. Directors also supported continued efforts to enforce hard budget constraints and effectively deal with loss-making SOEs in a timely fashion, establish modern enterprise management systems, improve the incentive system for senior managers, relieve enterprises of their social responsibilities, and increase competition by, inter alia, breaking up large state utilities and monopolies.

Directors considered rising unemployment and the widening gap between rural and urban incomes to be pressing problems. They stressed the importance of addressing the employment and social aspects of the reform process, and of strengthening the safety net to mitigate the social costs of reforms. In this regard, they welcomed the reduction of obstacles for rural migrants to work in urban areas and increased payments to laid-off SOE workers, and recommended further reform to allow freer movement of labor. Job growth in the private sector could be stimulated by improved access to financing and reduced barriers to entry into new lines of business. Directors also encouraged the Chinese authorities to revise key parameters of the current pension system to ensure long-term viability and minimize contingent liabilities.

Directors noted that trade reforms, including those implemented as part of WTO accession, have contributed to the rapid expansion in China's external trade. They encouraged the authorities to continue to implement WTO commitments, including market openings in banking, insurance, and retailing. Directors expressed appreciation for China's provision of debt relief in line with the HIPC Initiative.

Directors commended the improvements that have been made in the compilation and timely provision of economic statistics. They urged the authorities to make further improvements, including providing annual and quarterly real GDP data on an expenditure basis; reporting data on the international investment position as soon as feasible; presenting the fiscal accounts on a standard government finance statistics basis; and compiling labor market data in a manner consistent with international guidelines. In this regard, they welcomed China's recent subscription to the Fund's General Data Dissemination Standard and its intention to join the Special Data Dissemination System in the future.






IMF Staff


(Change in percent)

Domestic economy


Real GDP






Consumer prices (period Average)







(In billions of U.S. dollars)

External economy














Current account balance






Capital and financial account balance 2/






Of which: Foreign direct investment, net






Gross official reserves 3/






Current account balance (in percent of GDP)







(In percent of GDP)

Public finance 4/


Overall budgetary balance



















(Change in percent)

Money and interest rates


Broad money (M2) 5/






Interest rate 6/






Sources: Chinese authorities; and IMF staff estimates.

1/ As of November 6, 2003.

2/ Excluding errors and omissions.

3/ Includes gold, SDR holdings, and reserve position in the Fund.

4/ Central and local governments. Data include all expenditure financed by official external borrowing, interest payments on government debt, and unbudgeted expenditures in 1998-2000 related to the fiscal stimulus program.

5/ Banking survey.

6/ One-year time deposits, year-end.

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


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