 hina's economy steamed ahead in 2002, beating all forecasts, and analysts predict similar performance in 2003. Nevertheless, long-term problems--particularly rural poverty, unemployment, rising government debt, and an insolvent banking sector, all of which will require difficult structural reform to overcome--still loom over China's otherwise vibrant economy.
Economic Performance in 2002GDP stays strongChina's economy performed better than expected in 2002, boosted by strong growth in exports and foreign investment, strong consumer demand, and yet another year of government stimulus spending (see Table 1). GDP hit RMB 10.2 trillion ($1.23 trillion), up 8 percent from 2001. PRC forecasters expect similar growth in 2003, with most estimates ranging from 7.9 to 8.2 percent, but international observers expect slightly slower growth (see Table 2).
Prices ease again, but consumption rises China is still fighting deflation--the consumer price index (CPI) fell slightly overall in 2002--though deflation slowed in the last three months of the year. Prices fell 1 percent in urban areas, but only 0.4 percent in rural areas. Prices of autos, most foods, clothing, transportation, medicine, and telecommunications equipment such as mobile phones eased. Those for services such as education, recreation, and medical services inched upward. Some economists say that the simultaneous fall in prices for manufactured goods and rise in prices for services indicates that China's deflation is caused by productivity gains rather than weak demand or industrial overcapacity. One PRC government economist projects CPI to be around 0.5 percent for 2003. Consumption was fairly robust in 2002, with Chinese spending on holiday travel, homes, communications and electronic products, and autos. Retail sales rose 8.8 percent from January to November, to RMB 3.6 trillion ($441.4 billion), and are expected to top RMB 4 trillion ($483.7 billion) this year, according to the National Bureau of Statistics (NBS). Total vehicle sales jumped nearly 40 percent, while sales of sedans leapt 56 percent. Consumption is expected to grow 10 percent in 2003, and sales of homes, communications products, and autos will remain strong. A recent online AC Nielsen survey of consumer confidence found that 53 percent of Chinese respondents had deferred purchases in the last 6 months, which Nielsen attributes to expectations of lower prices. More than one-third of the 1,800-plus mainland respondents plan to buy digital cameras and computers and nearly half want to purchase a new mobile phone in the next few months. Eleven percent said they plan to buy a car in the next six months. Deutsche Bank forecasts that spending on autos, real estate, tourism, education, health care, and electronics will each grow 20 percent or more in 2003.
Though per capita GDP is only about $900 nationwide, several Chinese cities already boast per capita GDP of $4,000-$5,000--a level at which consumer credit starts to take off. Indeed, in recent years, mortgages and loans for education have become more common, and auto loans have started to appear. These loans, and the emergence of true credit cards in large cities, will likely boost consumption further in the next few years. Output and investment up again, thanks to more government spending Value-added industrial output rose 12.6 percent to RMB 3.15 trillion ($379.3 billion) in 2002, boosted by domestic demand and exports. Production of computers jumped a whopping 131 percent in the first 11 months of the year, the largest increase of any category. Output of sugar, internal combustion engines, smelting equipment, parceling machinery, motor vehicles, power generating equipment, air conditioners, carrier communication equipment, mobile communication equipment, microcomputers, semiconductor integrated circuits, color televisions, and copying machines all leapt 30 percent or more. Some of these sectors, particularly consumer electronics, are plagued by overcapacity. The State Economic and Trade Commission (SETC) forecasts industrial output to grow by at least 10 percent in 2003. Specifically, SETC expects exports and domestic demand to raise textile, light industry, and pharmaceutical output by 10, 17, and 18 percent, respectively. SETC forecasts the output of the machine and information industries will to grow 14 and 20 percent, respectively, but warns of oversupply in building materials and construction industries, as well as stiff competition from abroad in textiles. Industrial profits were also up, by 18 percent from 2001. The machine industry led the way with profits rising 47.5 percent from 2001 to RMB 82.3 billion ($9.92 billion). The machine industry is expected to do well this year, as is the auto sector, which saw record sales growth in 2002 of nearly 40 percent. Profit reports should be taken with a grain of salt, however, as the Ministry of Finance reported that more than half of the 193 companies it investigated in 2002 had inaccurately reported profits. Fixed-asset investment rocketed 23.4 percent to RMB 2.6 trillion ($314.4 billion) between January and November 2002, once again boosted by government spending. Most of this went to capital construction, renovation, and real estate development. Indeed, many Chinese cities seem to be experiencing a real estate bubble, which analysts warn could burst in 2003. China's National Bureau of Statistics also reports that nongovernmental investment rose 18 percent from January to September. Foreign investment also poured in, to the tune of $52 billion by the end of 2002 (see Foreign Investment in China). Concerned about mounting government debt, China will issue less in T-bonds this year, though the funds will again be spent on infrastructure, rural development, upgrading industrial technology, developing western and central regions, and environmental projects. Though the smaller issue may cause slower investment growth in 2003, Deutsche Bank says, stronger business confidence could boost non-budgetary fixed-asset investment by 15-20 percent. Deutsche Bank estimates fixed-asset investment growth of about 16 percent for 2003. Monetary policy eases China loosened its monetary policy slightly in 2002 to help combat deflation, though some analysts suggest that the government should loosen up even further (see Table 3). Cash plus demand deposits (M1) grew 16.8 percent to RMB 7.1 trillion ($858.5 billion), while M1 plus short-term deposits (M2) rose 16.8 percent to RMB 18.5 trillion ($2.24 trillion). In 2003, the central bank aims for 16 percent growth of both M1 and M2, and M0, cash in circulation, to grow by RMB 150 billion ($18.1 billion).
Interest rates remain low Interest rates are unlikely to go any lower in 2003. A rate cut early in 2002 did not persuade Chinese to invest their savings elsewhere--personal bank deposits rose 17.8 percent to RMB 8.7 trillion ($1.05 trillion) in 2002. People's Bank of China (PBOC) surveys reveal that the main reasons for the increase in savings deposits are uncertainties about social security, pensions, and education costs. And a falling stock market made investment there relatively unattractive. Interest rate reform remains on the agenda, but there seems to be much debate within the government over how to go about it. A trial reform in rural cooperatives in Wenzhou, Jiangsu, was reportedly quite successful and will be expanded. The aim of this trial reform is to expand the interest rate band by as much as 70 percent above the PBOC-set rate in smaller banks, so that they can lend to small and medium-sized enterprises, which are seen as a primary driver of economic growth and job creation in China. The big four state banks oppose such reform, claiming it will cause cutthroat competition. There also seems to be a tug of war over interest rate control between the central bank, PBOC, which wants higher interest rates to help the state banks, and the Ministry of Finance, which wants lower interest rates to keep the cost of the government debt low. PBOC, which sets interest rates, but only with the approval of top leaders, seems to be winning. PBOC money market operations, which informally adjust interest rates, scuppered MOF attempts to sell several batches of bonds in the fall. Forex reserves spike, RMB stays steady China's foreign exchange reserves jumped 35 percent to $286.4 billion in 2002. Some PRC economists are beginning to wonder whether some of this money would be put to better use if it were spent on education, healthcare, or other investment in China, but others maintain that China needs large reserves to shore up confidence in its shaky financial system. China has broadened its foreign exchange holdings, which are heavily in US Treasury bonds, to the euro and Japanese yen. China maintained a stable RMB in 2002, despite growing pressure from other countries to allow the RMB to appreciate. Goldman Sachs reportedly recently estimated that the RMB is undervalued by about 15 percent. Proponents of RMB appreciation point to China's strong current account surplus and huge foreign exchange reserves and FDI inflows as evidence of over-valuation. Others argue that China is heavily reliant on dollar-denominated production inputs and that a weighted calculation of China's effective exchange rate with its major trading partners shows little change since 1996. China may widen the RMB's narrow trading band slightly in 2003, but the RMB will not be allowed to float freely anytime soon. Broadening the trading band to 5 percent above or below the current level of 8.27 to the US dollar would allow the RMB to move to par with the Hong Kong dollar (7.80 to the US dollar). But even that much appreciation is at the high end of realistic expectations for changes in RMB policy in the short to medium term. Though the RMB remains unconvertible on the capital account, several minor liberalizations are under way. In one, foreign investors buying shares in Chinese companies under the newly introduced qualified foreign institutional investor scheme will be allowed to convert profits to dollars or other convertible currencies. The government is also increasingly allowing PRC companies to buy hard currencies to invest abroad as part of China's plan to develop domestic companies into global players. Still, such moves do not place any direct pressure on the RMB. Foreign investors have long been repatriating profits at the current exchange rate. Government budget sinks deeper into the red Tax revenue reached RMB 1.7 trillion ($205.6 billion), up 12.1 percent over 2001. Tax revenue now accounts for 16.7 of China's GDP, up slightly from 2001, but is still low compared with the roughly 30 percent of GDP it accounts for in the United States, in part because China has a low tax base. The central government collected RMB 1.04 trillion ($125.7 billion), up 12.3 percent, while local governments collected RMB 661.1 billion ($79.9 billion), up 11.7 percent. Value-added tax, consumption tax, and business tax accounted for more than half of total tax revenue (see Table 4). Personal income tax made up only 7 percent of the total, compared with an average of 28 percent in developed countries. Still, personal income tax revenue rose 22 percent, in part because of a crackdown on tax evasion, to which China reportedly loses RMB 400 billion ($48.4 billion) a year. And though Customs revenue usually falls when a country enters the World Trade Organization, strong overall trade helped China pull off a slight increase in Customs revenue.
China's fiscal pump priming efforts reached an all-time high in 200, with RMB 878.7 billion ($106 billion) in Treasury and other bonds, an increase of 16.0 percent over 2001. Of these funds, RMB 150 billion ($18.1 billion) was earmarked for fixed-asset investment, bringing the total amount raised through T-bonds for infrastructure development to RMB 663.2 billion ($80 billion) in since 1998. China plans to issue only RMB 140 billion in T-bonds in 2003, in recognition that continued pump priming is not sustainable. Continued stimulus spending, including higher spending on social services, combined with relatively low tax revenue gave China a record budget deficit of RMB 309.8 billion ($37.5 billion) in 2002--about 3 percent of GDP, a level that many economists say marks the beginning of the danger zone. In the first 11 months of the year, spending outpaced revenues by RMB 42.3 billion ($5.1 billion). Despite realization that such pump priming cannot continue indefinitely, the government will reportedly present a 2003 budget with an even bigger deficit than that of 2002, in part because China must pay back significant amounts of principal and interest in 2003. China's total debt is even more alarming. In addition to formal debt, China's government faces pension and other welfare liabilities of about RMB 8.27 trillion ($1 trillion) and a banking system sinking under the weight of up to $600 billion in nonperforming loans. Estimates of total liabilities range from 70 up to 160 percent of GDP, far beyond the 50 to 100 percent level that most economists say is safe. Even so, some economists note that such investment in the economy is useful if it boosts productivity, but will be in vain if serious structural reform, particularly of the banking system, is not tackled soon. Without banking reform, Morgan Stanley's Andy Xie estimates that China has five years before serious banking crisis hits. Rural economy in crisis, but new policies should help Rural China crept up to the top of the government's agenda in the last year. Education and healthcare are nearly nonexistent in some areas, and where they are available, few can afford them. In 2002, rural incomes rose only 4.4 percent to RMB 2,470 ($298.67), while urban incomes jumped 9.3 percent to RMB 7,500 ($906.89). Squeezed between low prices for their crops and oppressive local taxes, many farmers simply cannot make ends meet and migrate to the cities to find work. Migration in itself is not a bad thing, however. China's agricultural sector is hopelessly inefficient and at least 150 million surplus laborers will have to leave the land. This process is well under way. Statistics from the Ministry of Agriculture indicate that the number of migrants reached 94 million in 2002, up 4.7 million from 2001. Their per capita income was RMB 5,597 ($674.30). Of the total RMB 527.8 billion ($63.8 billion) earned by migrants in 2002, nearly 40 percent made its way back to the countryside. Migrants' earnings clearly play a large role in sustaining rural families. The central government recognizes that migration is necessary not only to ease rural conditions, but to speed up urbanization and modernization. Nevertheless, migrants face entrenched discrimination in the cities. To improve migrants' lot, the State Council recently issued a directive that calls on local governments to eliminate discriminatory restrictions on migrant workers. If fully implemented, the new policy could do much to narrow the rural-urban divide and hasten China's urbanization. Not all rural dwellers can move to the cities, however, and the government is considering several proposals for rural reform including elevating the Ministry of Agriculture to a commission, which would give it more funding and make one body responsible for rural issues. Fee-for-tax reform continued in 2002. Under this reform, various local fees and taxes are being replaced by an agricultural tax capped at 7 percent of a farmer's cash income, or a slightly higher agricultural specialty product tax. The Ministry of Finance estimated that the move cut farmers' taxes by about 30 percent in 2002. Though local governments are, by most accounts, overstaffed, wasteful, and corrupt, they do have some legitimate complaints when it comes to financing. First, county governments must pass on a significant portion of their revenues to the central government--75 percent of VAT and 100 percent of consumption taxes collected, according the People's Daily. And the county must also send revenue to the provincial government. Thus, it leans heavily on township and village levels to pay its expenses. Second, the central government tends to issue unfunded mandates, most notably compulsory primary education and healthcare. With no money to pay for these, local governments pass costs on to endusers. End result: more dropouts in rural areas and families heavily indebted by medical expenses. An attempt to bring financing to rural areas seems to be under way. Three rural commercial banks were formed from old credit cooperatives in Jiangsu in late 2001 and more will likely be set up in Fujian, Zhejiang, Guangdong, and Shandong. Access to finance is essential to promote the growth of SMEs and private enterprises, which, if successful will help absorb some of China's rural surplus labor. According to the State Council's Development Research Center, urbanites pay 60 percent of their medical costs, while rural dwellers pay 90 percent even though they earn only one-third the income. The central government has also unveiled a pilot scheme, to be implemented in two or three counties in each province, for revamping the old rural medical cooperatives. Press reports also indicate that the central government will provide incentives for traditional Chinese medicine clinics and hospitals in rural areas and has set up a fund of RMB 22 million ($2.7) for medical treatment for AIDS patients in hard-hit areas. Unemployment on the rise Unemployment is one of the biggest challenges facing China's government today. China ended the year with official unemployment of about 3.9 percent, but even the minister of labor admits it would top 7 percent if furloughed workers were included. At the moment, according to China Economic Quarterly, China's official unemployment rate counts only those "over 18 years of age, whose job has disappeared..., who hold an urban household registration..., who has not yet found new work, and who has registered at the local labor department." By 2005, however, China reportedly will eliminate the term "xiagang"--used to describe the roughly 6 million workers sent home on partial pay. Private estimates of unemployment, including migrants, range as high as 10 percent. China hopes to register unemployment of 4.5 percent in 2003. In the last few years, protests and incidents of unrest have become more common as laid-off workers, unable to find jobs and usually owed back wages, take to the streets. In response, the government has been encouraging lending to small and medium-sized enterprises to spur job creation. And in December, the Ministry of Finance and Ministry of Labor and Social Security (MLSS) issued a joint circular that said workers laid off from state-owned enterprises will be eligible for tax breaks, micro-credit loans, and subsidies to help them start businesses. China has recognized that its unemployment problem is structural. One reason for the chronic lack of jobs is that the state has channeled investment to SOEs and capital-intensive industries--the entities least likely to create jobs. Encouraging growth in the services sector and of private businesses is China's best bet for sustained job creation. China struggles to knit a social safety net China failed to make much progress in grappling with the need to nationalize its pension system. The pension debt is estimated at anywhere between 50 and 150 percent of GDP. Premier Zhu Rongji admitted in early 2003 that the high-profile reform experiment begun in Liaoning in July 2001 has not gone well. Efforts to implement a scheme to inject proceeds from state asset sales into the National Council for Social Security Fund (NCSSF) continued to languish. On a bright note, China in 2002 intensified cooperation with international advisors, including the Asian Development Bank, on pension reform to upgrade management, technology and human resources capabilities. China's NCSSF concluded 2002 with the announcement of custodian banks and fund management companies selected to manage pension funds. Two banks--the Bank of Communications and Bank of China--were selected as custodians, while six fund management companies--Nanfang Fund Management Co. Ltd., Boshi Asset Management Co. Ltd., Huaxia Fund Management, Changsheng Fund Management Co. Ltd., Penghua Fund Management Co. Ltd., and Jiashi Fund Management Co. Ltd.--were named as fund managers. Though NCSSF may invest up to 40 percent of its assets in stocks, analysts expect it to be some time before investment levels reach that amount. At the end of 2001, NCSSF had 1.6 percent of its $9.7 billion in funds invested in the stock market and only 0.7 percent in corporate bond holdings. Still, most local funds are using current deposits for payments, and there have been reports of monies disappearing, presumably into the pockets of local officials. MLSS statistics show that 110 million Chinese are now participating in the pension scheme, while 90 million participate in the medical insurance scheme. What to Watch in 2003China's leadership change, along with growing realization that the widening gap between poor, rural areas and rich, urban, coastal areas is a serious threat to stability, seems to be refocusing the government on poverty alleviation and rural reform. Expect to see continued gradual loosening of household registration regulations over the next few years to permit more migrants to settle successfully in the cities.Other developments in 2003 will like include the following:
Copyright 1996-2008 by the US-China Business Council Last Updated: 20-May-03 |
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