Analysis: Year of transition for China's markets
By Sonia Kolesnikov-Jessop
UPI Business Correspondent
Published January 4, 2005
SINGAPORE -- The Year of the Rooster is expected to be an important year of transition for China's financial markets. While last year's debate centered on the macro adjustment and the hard versus soft landing outcome, attention will now shift to the timing of an important policy change on the renminbi, as well as the expected aggressive reform push in the financial sector.
The Year of the Rooster should be the year of the much expected foreign exchange regime change in the renminbi, economists agree.
The People Bank of China's three-day annual conference, which started Tuesday's morning, is already fueling oil to the speculation fire, even though economists point that this week's meeting will discuss the execution, rather than initiation, of policies, the tone of which has already been set by top decision makers.
"This meeting's aim is not to discuss the direction of monetary policy, but rather to determine the practicalities of implementing the broad thrust of 2005 economic policy, which was determined by the Politburo of the Central Committee of the Chinese Communist party in early December," notes Desmond Supple, economist at Barclays.
Dong Tao, chief economist for Asia at CSFB said "we expect no comments on the renminbi to be included in the concluding statement after the conference, though the issue will most likely be discussed behind the closed doors."
Tao believed the money supply M2 target is likely to be set at 17 percent. "In general, we look for easier monetary policy targets compared to the second half of 2004, while the government will probably keep a foot on the brake in case signs of overheating re-emerge," he added.
Supple was more conservative, believing that the M2 growth target was likely to be set below that of last year (17 percent), around or under 15 percent.
China is now widely anticipated to de-peg from the U.S. dollar sometime this year. The mechanism of the de-peg which will result in a revaluation against the greenback is still uncertain, but it is likely to take the form of a widening of the trading band because of the technical difficulties associated with a currency basket peg, economists predict.
Officials have been under tremendous pressures in the last year to let the renminbi appreciates against the dollar, with the U.S. administration and Japanese heavily weighting on Beijing. Yet as in the past, the authorities are unlikely to rush into any decision. Indeed, they are more likely to delay a move toward a more flexible exchange rate system until volatility in global exchange rates has quiet down.
"In the next few months, we expect a modest band widening, possibly to plus/minus 3 percent. Further appreciation over time is also likely," said Yiping Huang, economist at Citigroup Global Markets Asia.
Lehman Brothers economist Rob Subbaraman expects China to allow a 5 percent yuan rise this year, pointing that China's gradual approach to capital account liberalization was appropriate given its still-weak financial system.
Yet, he also argues that the transition to a more flexible exchange rate needs to start "as soon as politically feasible."
"We see no reason why China needs to move to a fully flexible exchange rate in one fell swoop. Our preferred approach would involve a phased movement toward greater exchange rate flexibility, in tandem with capital account liberalization. One way would be for China to start managing the renminbi against a trade-weighted basket of currencies, but disclosing neither the composition of the basket nor the policy target band of the trade-weighted exchange rate," Subbaraman said in a recent report, pointing to the success of the Singaporean authorities with such arrangement.
Another way would be to simply widen the renminbi/dollar exchange rate band over time.
Andy Xie, economist at Morgan Stanley, believes China should remove explicit and implicit subsidies for exporters, a move that could essentially appreciate its currency by 16 percent. "China should phase out implicit subsidies for its export sector. The VAT rebates for imported equipment and components should be eliminated as soon as possible," Xie said, noting the rebates amount to about 8 percent of the export production cost.
Removing subsidies could boost government revenue substantially, which could be used to develop interior provinces. The de facto appreciation should considerably cool international pressure on China to appreciate its currency, Xie argued, pointing that China could kill two birds with this stone.
Economists believe the on-going three-day meeting is expected to advance the reform agenda that was outlined in December 2004, especially the further strengthening of the financial sector, with a recapitalization of selected state banks likely to feature prominently in discussions.
"Apart from the exchange rate policy reform, bank reform probably ranks very high on the government's policy agenda for 2005 and 2006," Huang said.
According to the agreement on World Trade Organization entry, China will have to open its domestic market to foreign banks by the end of 2006.
In 2005, China will probably introduce the deposit insurance system, at least to commercial banks. The Bank of China (BOC) and the Construction Bank (CCB) were selected in 2003 as the "pilot banks" for the reforms, while restructuring programs were worked out in 2004 for Industrial Commercial Bank of China (ICBC) and will be worked out in 2005 for Agricultural Bank of China (ABC), Huang predicted.
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