Rebalancing is the key to sustaining China's growth

• Pages: 341-351

Page 341

China's growth remains strong and inflation is under control, according to the IMF's annual review of the economy. Over the medium term, however, China will need to rely less on investment and exports and more on consumption if it is to sustain high growth. The review noted that appreciation of the currency was needed to stem the rapid pace of investment growth now and would also play a key role in helping to rebalance the economy in the medium term.

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To sustain rapid growth, China needs to rebalance its economy

China's economic growth is projected to remain strong, with inflation well under control. But the latest annual assessment of the economy argues that, for rapid and stable growth to be sustained over the medium term, China should rebalance the economy so that growth is driven more by consumption than by investment and exports.

The IMF's most recent forecast shows China's real GDP growth reaching 10.5 percent in 2006, up from 10.2 percent last year. Inflation is projected to dip to 1.4 percent this year from a recent peak of 3.9 percent in 2004, while China's trade balance continues to climb and its large stockpile of international reserves grows further (see table and Chart 1).

According to the IMF staff report, released on October 31, the key immediate concern is rapid credit and investment growth (see Chart 2, panel 1). "Abundant liquidity in the banking system could touch off further increases in lending growth and investment, with the probable consequence of creating new nonperforming loans and undoing some of the progress made in reforming the banking sector," the report says.

Tightening monetary policy

The Chinese government recognizes the need in the near term to contain investment and credit growth and has instituted a number of administrative actions and a tightening of monetary policy in response. However, the report calls for additional steps to be taken, given substantial liquidity in the banking system, continuing large capital inflows, local government pressure on banks to expand lending, and diminishing restraint on credit growth by the large banks as they complete their recapitalizations (see Chart 2, panel 2).

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At the same time, having to tightly manage the exchange rate has created a major conflict in monetary...