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Transcript of a Conference Call on China Article IV Consultation
August 12, 2016
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IMF Communications Department
MEDIA RELATIONS
PRESS OFFICER: Keiko Utsunomiya
Phone: +1 202 623-7100Email: MEDIA@IMF.org
Washington, D.C.
P R O C E E D I N G S
MS. UTSUNOMIYA: Welcome everybody. This is a teleconference on this year’s China Article IV consultation. I believe you all have seen the embargo documents from the IMF online press center. This is a reminder that the contents of the press conference are under embargo until 9:00 a.m. Washington time which is 9:00 p.m. in Beijing, China. We will start with a short opening remarks by James Daniel, Mission Chief for China, and we also have Markus Rodlauer Deputy Director of the Asia and Pacific online too. James?
MR. DANIEL: Thank you very much, Keiko and thank you everybody who has dialed in for your interest in our work. I’d like to just summarize perhaps the key messages of the Staff Report you have in front of you in a few bullets.
The big picture is that China’s economy continues to advance to a sustainable growth path. This progress can be seen in many dimensions especially in the growing importance of services relative to industry; and consumption relative to investment. But there has been less progress in reining in rapid credit growth.
Similarly, while reforms have advanced across an impressively wide domain they have lagged in some critical areas—especially on state owned enterprise reform and tackling excessive corporate debt. As a result, vulnerabilities are still rising on a dangerous trajectory. And fiscal and foreign exchange buffers, while still adequate, are eroding. The near term growth outlook has improved with recent policy support, but the medium term outlook is clouded by factors including high and rising corporate debt, structural excess capacity and the increasingly large, opaque and interconnected financial sector.
While we view these challenges as still manageable, urgent action is needed to ensure that they remain so. Key areas for action are: tackling the corporate debt problem, adjusting macro-economic policies for a moderate slow down, guarding against financial risks, continuing progress towards an effectively floating exchange rate regime, strengthening transparency especially in communications and data quality.
Overall, we are impressed by the broad range of reforms and change that is occurring in China whose economy remains a pillar of global growth. The transition to sustainable, strong, inclusive, and greener growth in China is complex and challenging, but we are confident that the Chinese authorities will rise once again to the challenge. Thank you.
MS. UTSUNOMIYA: Thank you, James. Markus do you have any additional comments at this point please?
MR. RODLAUER: No thank you, Keiko.
MS. UTSUNOMIYA: Okay we’re ready to take questions from the callers please.
QUESTIONER: Good morning and thank you for this. I have two questions. First is when you were in China and when you visited the relevant ministries when you said to them you need to stop lending to loss-making SOEs, especially you talk to the state owned asset supervision commission, what did they say? My second question is in the Survey story, Mr. Daniel has given out two scenarios. Proactive reform scenario and no reform scenarios. Could you say more on your criteria for these and the likelihood of those scenarios? Thank you.
MR. RODLAUER: James, should I take the first one and you take the second one?
MR. DANIELS: Sure, sounds good.
MR. RODLAUER: Thanks for the questions they are very good questions. We had three and a half weeks of very intense discussions in Beijing in late May early June but these are not the only ones. We have been in continuous contact with the senior authorities in many ministries and above over the past year on a number of issues including SOE reforms and financial reforms. These discussions are very substantive, very detailed at times but they also reach into the higher policy configuration to go into that. We see a clear recognition on the part of the authorities including at the highest level of the problem, the issue, and the challenge. As you know both at the central level and at the local level in particular a number of initiatives under way attacking the problem and to address SOEs complex and varying circumstances in different ways. Among the approaches taken by the authorities at the central and local level, some are stronger, some less as strong. Overall we would say there is no shortage of the recognition of the problem but we have not yet seen a clear consensus on a strong and coherent approach to fully resolve the issue. James?
MR. DANIEL: I just want to draw your attention to the authorities’ view section in the Report. If you look at, paragraphs 30 and 31 on page 21, you’ll see some angles in what the authorities’ views were.
On your second question. In terms of the reform scenarios these were mainly illustrative. I don’t think we would expect either of them to be highly likely; they are more to illustrate the risk around the baseline. The no reform scenario is really one where reforms stall and credit intensity keeps and increasing and a lack of action. That’s a fairly extreme scenario because we said at introduction there is an impressive range of reforms that are going on and as Marcus just mentioned the authorities are aware of the challenges. However, it was an illustrative scenario to show what could happen if reform does go into reverse. The proactive scenario is really kind of our recommended scenario we think of as the first best actions by the authorities and it is to really illustrate the point that if quick and decisive reforms are taken there probably will be a short term cost in somewhat weaker growth in the very near term but that will make stronger more sustainable growth in the medium term and that’s why we have the proactive scenario being a stable six and a half in the medium term whereas the baseline falls towards six and keeps petering off. The critical difference between the proactive and the baseline is the extent to which that excess credit growth is reined in. But at the same time the productivity of the credit is improved by switching resources from the less profitable, to more profitable sectors. So it shows that it can be done, credit growth can be reined in and growth can be supported although at the cost of probably some near term growth weakness. But definitely that is also similar to our central scenario.
If you’re looking for what we think of the likelihood of the various risks let me just turn your attention to a table that can be easily overlooked and may have some of the granularity that you may be looking at and that’s the risk assessment matrix which on my publication is page 54. That will give you an assessment of the likelihood. For example, if you’re looking for medium term risks which would be probably the no reform scenario there would be a likelihood there would be medium. In the footnote there you can see what the probability of that is. So I just turn your attention to that please.
MS. UTSUNOMIYA: Next question please.
QUESTIONER: Yes hello. The report talks about the potential spillover effects on Asia and elsewhere in terms of trade impact and investment impact and so on. My question is do you think the worst of these spillover effects is already being felt or do you think it is yet to come? Obviously it depends on what happens in China but broadly speaking have we seen the worst of the spillover effects yet or not?
MR. RODLAUER: I’ll start with a general comment and then maybe James you can add to that. I would think that in terms of China’s rebalancing and starting adjusting to more sustainable, somewhat slower growth from a period of as you know very, very rapid growth, say ten to three years ago, I think the worst of that kind of rebalancing impact about we have seen in the sense that two things have happened at the same time. On one hand we have seen China slow of course. As you know growth now is about half of what it used to be, eleven and a half percent growth over the last 30 years and even higher in the early 2000’s and mid-2000’s. That of course had an impact. The rebalancing of the economy from investment and consumption also has an impact on the demand for investment and impact and for construction material and so forth. So that impact has happened significantly. I think that will somewhat continue going forward but in addition we have seen this major adjustment in global commodity markets from an expectation, probably some unrealistic expectations of continuing very, very rapid growth in China and in the global economy and the associated some might call it irrational exuberance of markets and investments in commodity markets -- and this adjustment in commodities markets, I think, has also been quite sharp, also triggered by China again, not only by the global financial crisis and its aftermath, but also an adjustment in the markets, from what I would call perhaps unrealistic high sustained, very rapid growth expectations, to be more realistic, so these two things together.
In that sense, I think we have probably seen the worse and the sharpest of the impacts globally, but adjustment in China, as we have said, hopefully needs to continue, but is by no means over, sort of continued moderate adjustment, towards moderately slower growth, and rebalancing to more sustainable growth, which is less investment, credit intensive, will continue. Spillovers overall have been sizeable in what we have seen so far and will continue. James?
MR. DANIEL: Nothing much to add, just a couple of points. When we talk about spillovers from China, we have to remember the counter factual to China’s rebalancing and slowdown is not everlasting investment in import intensive and double digit growth, but much slower growth.
The spillovers we are seeing are to some extent a reflection of a desirable adjustment by China, and just to support what Markus has said, the greater flexibility in the exchange rate, and I think the markets’ understanding of how that is working is another buffer, which I think would underscore what Markus said, maybe less going forward.
Of course, it depends on the reform done by the Chinese authorities themselves. If they do the types of reforms that we’re outlining in this report, the adjustment will be smoother, and vice versa.
QUESTIONER: Thank you.
QUESTIONER: Two quick questions. I’m just wondering, I’ve been covering this for quite a few years.
I’m just wondering why you are releasing it at 9:00 on a Friday evening China time. It kind of seems quite unusual. I’m just wondering if that’s a sign that there was quite a lot of opposition to what you are saying from the Chinese government, and they didn’t want a lot of publicity domestically.
My second question is that you put a recommendation in the report that the government should set a high level group with a clear mandate for policy formulation that cuts across different agencies and other parties, such as the banks, to tackle what you call systemic corporate debt problems, and that there should also be some high profile pilot restructures and liquidation of SOEs would help.
What do you think is the likelihood of that happening? Obviously, this is a problem -- obviously, there are so many government agencies involved in all these things that it would seem the logical thing to do. Is there a consensus in the government that this kind of group is going to happen? Thank you.
MR. RODLAUER: James, do you want to talk to the high level group thing? On the timing of the press conference, you’re seeing that we are talking to you from all parts of the world, frankly. Our office in Beijing is online. James is in London. I’m here in the U.S. You are somewhere else.
This is frankly a consensus among all of us on the time that works, including the authorities. This was the time that worked for all of us. James, on the
group?
MR. DANIEL: On the high level group, what I would say as Markus said at the beginning, there really is a recognition this is a problem that needs to be
dealt with by the authorities that we met during our consultation, at a very high level.
We, of course, recognize and they recognize this is extremely challenging, and it cuts across, as you were saying, many different ministries, and it is a real coordination challenge.
However, I think we have seen signs that they are getting more coordinated, and this will increase going forward. Already when we were there in June, we had a roundtable discussion. We saw an inter-ministerial meeting happen shortly after. We saw a lot of guidelines going out.
We have seen action by the financial authorities. We have seen action also by the government on a number of areas. We have also seen an increasing amount of action by local governments to address their weak enterprises.
We have also seen some defaults happening of certain enterprises. I think there is an increasing ability and recognition by the government to have a joint approach to this problem. We certainly felt this was very much recognized by them.
I would be cautiously optimistic on this.
QUESTIONER: Okay. Thank you.
QUESTIONER: Hi, there. Hello? I have a few questions. Looking at the section on financial system vulnerabilities, my first question is can you describe what you mean by a “destabilizing liquidity event,” rising from the prohibition of the shadow credit products?
My second question is can you clarify what you mean by these risks being amplified because banks are sort of borrowing from each other via the interbank market? Can you explain that more?
MR. RODLAUER: Repeat your question, the first one was about what are the risks of the growing shadow products? Is that right?
QUESTIONER: Yes, you said in one of the sections that because the shadow credit products had grown so quickly and financial institutions were increasingly relying on interbank funding, that this whole structure basically leads to a potentially destabilizing liquidity event.
I’m wondering what in your mind -- what does that liquidity event look like?
MR. RODLAUER: Maybe I’ll just give you a broader picture up front and then you could talk about the details of the shadow banking. The rapid expansion of credit, corporate credit in particular in China has two issues.
One is the allocation of credit on the asset side, the risk of a credit event on the asset side, and the second issue is the funding of it.
We have seen from global experience and particularly the way China works, we don’t really feel that on the asset side, there is a major crisis risk. It is more of an issue of allocations, credit, efficiency of resources, because on the asset side, they can handle defaults in various ways and they can shift resources around on the asset side.
What generally happens in situations like this is the funding. If it is funded increasingly from abroad, which is not in the case in China, that is one of the crisis triggers we have seen elsewhere, or if it is inclusively funded in a non-stable way other than from fairly stable corporate deposit-- here in China we still see a ratio of funding from deposits that is quite strong, no immediate risk there.
We still have a large share of the credit being funded by -- the trend, of course, is such that a growing share of credit is being financed from non-deposit sources domestically.
So, one good thing, it is not from external, but it’s non-deposit domestically that are funding an increasing share of credit. That is still relatively small. If the trend of more rapid credit growth and deposit growth continues, we would see two or three years out an increasingly large share of credit would be financed by non-deposit sources, either in the interbank market or elsewhere, shadow banking.
From a macro point of view, it then creates bigger risk of unstable funding. James, would you want to expand on that a bit?
MR. DANIEL: That summarizes it well. I would just draw your attention, and I don’t know if you have seen it, to our Selected Issues. I think we have two bundles in front of you. We have four or five notes which go into a bit more detail on many topics. The third one is on finance systems, shadow exposures, funding, and risk transmission.
There, you will see in paragraphs four through seven more or less, I think, more detailed answers to your question. That makes the point that Markus was saying, asset growth has been much faster than deposit growth.
If you look at the deposit ratios traditionally defined, it is still quite reasonably low. You can see the trend is one of increasing reliance on wholesale sources, and that can be interbanks, for example.
The other thing that we are seeing is these shadow products are often funded connectively by investors who may not have so much incentive or ability to continue to support market liquidity should there be a shock, which is somewhat different to deposit funding.
We look at the various risks from shadow products and liquidity risk and transmission risk.
QUESTIONER: Hi, I guess we’re double teaming you here. First of all, just on a housekeeping question, I thought the country determines release time and date.
Secondly, just on a side note, what are the consequences of Beijing failing to deal with the imbalances and distortions promptly? Secondly, what are the global potential spillovers of the no reform growth and credit impact, the low end, the no growth, the no reform scenario?
Finally, how much lower would the Yuan have to trade before the IMF has any concerns about undervaluation, all other things being equal?
MR. RODLAUER: Nice to hear from you. Thanks for being online. It’s not correct to say the country determines the timing of release. It’s a joint decision of when to release the report.
The consequence of failure, I think it’s very clear, as we have seen and tried to illustrate and quantify in the report. It is an increasing risk of a sharp slowdown or even a financial event, financial crisis, in China.
QUESTIONER: That’s the no reform scenario?
MR. RODLAUER: That’s the no reform scenario.
QUESTIONER: Okay, I just wanted to make sure I understood that. Okay.
MR. RODLAUER: I think we talk about the spillovers of that. James, maybe you can add some clarification to what a sharp slowdown of China’s growth implies globally.
How do we estimate and how do we assess
exchange rate. I think, Ian, you have been in this game for a long time; you know what our benchmarks are. At this point we are looking at the Chinese renminbi broadly, and it is in the range of what we are saying it to be, consistent with equilibrium. we -- take benchmarks, if it goes on the order of 5 to 10 percent, outside of that range, then we would start having -- we would think about whether it would be not consistent with equilibrium. So, you know, this is what I would say to this.
QUESTIONER: And the spillover.
MR. RODLAUER: Let me just back up and say on your question of Beijing and not acting promptly, i.e. the no reform scenario-- I think we have time, but I think when you get into the risk scenarios that we highlight in the risk assessment matrix on page 54, and into that graph you'll see where we try to quantify what a downside scenario might look like in that kind of shaded red area. In terms of the global implications, also it depends back on the nature of what happens.
But as a rule some -- if you look we have a section in our respective issues called Rebalancing in China Global Spillovers, and there we point to 1 percentage point investment-driven drop in GDP and China, one, would give rise to a G-20 impact of a quarter in terms of growth.
But if you look at the picture you'll see growth going from, say, 5 to about 3 percentage points, so that, you know, the back of the environment you could get 0.5 off global growth, but I think that -- obviously that will be a bigger event than just the pure growth slowdown, so I wouldn’t speculate solely (crosstalk).
QUESTIONER: And that’s based on the no-reform scenario?
MR. RODLAUER: Yeah, yeah. That’s it.
QUESTIONER: Okay.
MR. RODLAUER: I want to also clarify -- -- because your question was framed in a way, at what point, how much lower would the exchange rate have to go before the IMF would become concerned and worried that that -- it to be inappropriate. You know, that’s a very loaded question, and as you know our methodology is very careful and very precise, in terms of, you know, we are looking at the external position of a country in a longer-ranged context.
So, first we look at the current account of China we look at the medium-term outlook, we see how that is likely to be consistent with the right kind of policy settings of fiscal and others, and then we are saying whether the external position is slightly -- is stronger, moderately stronger or much stronger, or much weaker than what is consistent with medium-term equilibrium.
That’s just the way how we assess an exchange rate which is broadly in line with the equilibrium. Now when you have market forces moving an exchange rate, for example, for short-term cyclical reasons, into one direction or another, we may see the exchange rate move somewhat away from that equilibrium as we have seen in other countries in advanced economies for example, in the past.
So then, maybe a cyclical reason why the exchange rate moves out of equilibrium temporarily, but that does not mean that the Fund automatically would pass judgment that that movement was inappropriate, or reason for multilateral action, for example.
So I want to be very careful to say that, you know, there is one part of the assessment in how we assess an exchange rate in relation with the equilibrium, and then a very different, much bigger question is whether that is an appropriate movement, whether the international community would have concern. So, I just didn’t want to leave any imprecision about how, you know, the step-by-step methodology of how we address exchange rates.
QUESTIONER: Thank you.
MR. DANIEL: Indeed, we look at it from a global consistency perspective as well, so it matters not just what happens in China, but also what happens in the rest of the world too in terms of equilibrium.
QUESTIONER: Hi, there. Thank you for your comments. On the question of SOE reform, you mentioned that in areas where there will be a relatively good job market then SOEs doing less well should be shut down? My question is, it seems that the place where we have most inefficient -- industrial SOEs are located in the Northeast; already and there aren’t that many other opportunities going for displaced workers.
And I'm wondering if you think the current kind of muddle-through scenario of continuing to putting this through is the second best situation, particularly in regions where already isn't a lot more of other economic opportunities going. And what -- what you think of all of the current model of reform? It looks like it's more about bringing together, managing the SOEs than shutting them down. Are you taking any real pain?
MR. RODLAUER: You know, we had a feeling -- we had a view and we do -- we have a view that it would be very helpful for China, both domestically and internationally to demonstrate a strong start to a new approach to state-owned enterprises. And the new approach, as we described it in the report, is comprehensive that addresses both the financing side of it, the debt side of it, the enterprise restructuring side of it, the social side of it, the employment consequences, altogether in a coherent way. And making a strong start with 1 or 2 or 3 large enterprises, to do it in the right way, then you also allow private investors, and even foreign investors to come in and play a role.
Making a strong start I think would be helpful both in order to test run with the kind of coordination that you need that we are talking about, the kind of social impact it has, the kind of budget discipline you want to establish. The kind of restructuring, and the financial restructuring, the various tools that have been talked about, putting all this together into a coherent way, and doing it well, and it doing visibly well, I think would be helpful both for, as I said, for China, to show that China can do it, both globally to show the world that China actually can do that.
In part, we felt it would be easier to do that fresh from start in areas where, as you say, you know, unemployment and social consequences would be not as harsh as maybe in the northeast somewhere. So making a strong start in the right way, in some provinces where there is relatively strong underlying growth, where labor can relatively quickly redevelop into other activities that might be easier to do.
And then elsewhere, while overall still making the kind of right, strong start to the program that we would like to see, and we would like to see and we would recommend. So that’s the rationale behind this recommendation. And we saw some reciprocity to that among the senior policymakers.
MR. DANIEL: On your second question, I think you asked whether or not the mergers we are seeing is the way forward on state-owned enterprise reform. I think if you look at what we are writing in our respective issues, for example, in corporate debt restructuring strategy, our focus here is on the need to produce operational improvements in the productivity of state-owned enterprises.
If a merger just ends up merging a weak enterprise with a strong enterprise, or a mediocre enterprise, that’s not a game changer. However, if a merger gives an opportunity to restructure the enterprise into root, the economies of scale, you can get the productivity gains that you need.
Our approach here is about removing the major losses and improving the return on assets in the state-owned enterprise sector, so we are judging by its operational effects on overall productivity.
QUESTIONER: Thanks. I didn’t find much in the report about energy of state-owned firms, and I was wondering if you can add any commentary on what's going on in the energy sector. We've heard from the government, being it's a consolidation of oil state firms, or a transfer -- changing them into, you know, asset-holding companies, but there is not much clarity. I was wondering what your perspective is, and what should be done in that area.
MR. RODLAUER: You know, you are seeing the report I think already, the focus is on a number of issues. As you know we at the IMF focus on macro, and we have gone into a lot of structural issues on the state-owned enterprise sector, but the IMF does not focus on the details of sectoral issues as you’ve put them. So, I don’t think we are in a position to give you a substantive answer on specifically what needs to be done in the energy sector.
So I wouldn’t go into this, this has not been the focus in our consultation which, as you can see, has absorbed our energies into a lot of other critical areas.
MS. UTSUNOMIYA: If there's no question; I have received an email question because she cannot participate in the teleconference. "About the recently announced SDR bond, what is the position of the IMF that is issued by The World Bank and the Chinese authorities?"
MR. RODLAUER: James, do you want to do that?
MR. JAMES: Yeah. Here at the IMF we welcome the PBC's approval of The World Bank's intended issuance of bonds in Special Drawing Rights, SDRs, as we call them, of up to 2 billion in China's -- in the bank bond market. More generally, the IMF members request, we've been exploring whether, the SDR could contribute to the smooth functioning of the international monetary system, and that work is currently ongoing.
Ms. UTSUNOMIYA: We conclude this morning's press conference. Thank you very much for your participation. Have a nice day.
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