Top analysts pinpoint problems
By Li Xiaowei and Guo Jian'er (China Daily)
Updated: 2005-04-21 08:55

SHANGHAI: Several prominent economists from some of the largest international investment banks yesterday pinpointed the fundamental problems in the Chinese economy, including the misalignment of currencies and interest rates, excessive demand for imported materials and foreign pressure on the Chinese currency.

These are also the core issues that the central government and regulatory authorities are addressing in financial reform and the current macro economy adjustment programme.

At a conference on China's economic prospects hosted by the American Chamber of Commerce in Shanghai yesterday, Frank Gong, head of China research at JP Morgan, said the country's liquidity surge accompanying the sharp rise in balance of payments surplus could pose a genuine threat to the economy's soft landing.

In addition, the soaring property mortgage loans as well as the continuing flow of hot money into the country's property market could potentially lead to widespread bankruptcies and financial distress.

Gong explained that China's foreign exchange reserves accumulation had significantly outpaced current account surplus and inflow of foreign direct investments. The trend not only reflects inflow of hot money from international investors but crucially, expectation of renminbi appreciation by domestic households and companies.

The abundant and rising liquidity in the financial system has made market interest rates stay at a stubbornly low level, despite the central bank's 27-basis-point rate rise in late October.

The combination of ample liquidity and low real interest rates is hardly an environment conducive to containing investment growth, particularly in property, Gong said.

Meanwhile, the huge liquidity and the easy overall monetary environment have turned into a further unsustainable rise in property prices and worries about a property bubble, he added.

China's recent measures on housing affordability suggest signs of excesses in the national housing market, especially in Shanghai. Gong cautioned that, short of a well-regulated and sound financial system, Shanghai and the whole country as a whole cannot afford to experience dramatic property price booms and busts.

The share of consumer loans which are mostly mortgage loans relative to total bank loans almost tripled in four years to reach 11.2 per cent by 2004. Plus, capital has continued to flow into the property sector, despite credit tightening last year.

"At the end of the day, at the macro level, the escalating property boom is simply another symptom of a misaligned currency and interest rates," said Gong.

Highly dependent on imported raw materials, particularly oil, many economists have questioned if China can sustain the high growth levels experienced in the first half of the past decade.

"The simple answer is why not,"said Andrew Rothman, China Macro Strategist at CLSA.

In fact, the country has just passed the peak growth rates in Chinese consumption as the growth rates have been so high in the past that it is impossible to continue rising at even higher speed.

In addition, consumption growth will be constrained by limited availability of imported raw materials in the tight global markets. Physical constraints such as shortages of power will also cap the growth rate.

"The growth rate of Chinese commodity consumption will also slow because we expect the overall growth rate of China's economy to continue slowing," said Rothman. CLSA estimated China's real GDP growth to decrease from 11-12 per cent in 2003 to 8-9 per cent this year, and the annual growth to be at 7-9 per cent through 2010.

Rothman also said that China is dependent on trade and foreign direct investment was outdated. Last year, net exports were equal to only 2 per cent of GDP and foreign investment accounted for only 7 per cent of total fixed asset investment, down from 20 per cent in 1995.

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