Reforms in deep-water zone, but will China take the plunge?

‘Crossing the river by feeling the stones’ was a three-decade long slogan describing China’s need to explore its own development path.

Now, China’s development model and reform process suddenly finds itself at a critical, transitional juncture. The on-going reforms phase has entered a deep-water area — a new era which will require a long list of fiscal and industrial overhauls. In fact, in the short and medium term, China may even need to sacrifice some economic growth to ensure structural transformation.

This expectation of radical change — before a crucial plenary session of the Communist Party of China — was welcomed instantly by the market. Strong policy assurance to change the pace of reform lifted market sentiments in the beginning of the week and the Shanghai Composite saw the strongest daily gain in a long time.

So what has changed in the reform process, from an earlier phase? There is an acceptance of the fact that growth will endure, but will come at the cost of weak momentum. The economy cannot return to double-digit growth figures and for the industrial-financial system to tackle the slowdown, China needs to put itself through a long list of reforms — especially kick its dependence on exports and investments.

Thus, within the next one month, China is expected to tackle a number of issues that may well upset entrenched vested interests.

A priority this time will be resolving the issue of excessive monopoly, generated by state-run institutions. This has been a serious problem in China’s financial sector and monopolies need to be dismantled quickly as part of the reform process. If China wants to set up a diversified financial system and work towards long-term development of a market economy, breaking down monopoly sectors will need to be a priority.

Chinese think tank members are also advocating the full use of direct and indirect financing and building up the capital market and monetary markets. Development of private financial institutions, with an emphasis on risk control, is now the flavour of the policy season.

Despite the conservatism, this year has seen substantial financial reforms, as China gradually relaxed restrictions on its currency and freed up bank lending rates in July.

There is also an expectation that the services sector would open up to private and foreign entrants, who will get to play a greater role in the expansion of pensions and healthcare insurance schemes.

All this should mean that the government will step up efforts to address major structural problems in the economy, such as overcapacity in some key industries, financial imbalances and the housing boom.

Unfortunately, old habits will die hard. At the end of three quarters, investment remains a major driver of China’s economy because of the government’s propensity to keep providing mini-stimulus programmes.

As of the end of September, fixed-asset investment was up 20.2 per cent year-on-year to 30.9 trillion yuan (Dh18.6 trillion). Investment-driven growth contributed 55.8 per cent of the overall GDP expansion in the first three quarters. The recent ‘mini-stimulus’ involved higher rail investment and substantial duty cuts and help to exporters. The good news is that private investors put 19.6 trillion yuan into fixed-asset investment, almost twice as much as State-owned investors.

Experts forecast that it will be very difficult for policy-makers to tear themselves away from the allure of capital-driven growth.

In fact, some analysts are opining that the local government debt crisis, that resulted from the investment-driven model, may not be a ‘fatal problem’ at all, as Chinese banks are robust enough to withstand the losses.

This insistence on a hunky dory state of affairs may result in ‘stones’ turning into ‘boulders’. A tendency to deny the scale of problems remains the bane of China’s reforms.

— The writer is a freelance journalist based in China