The Future of Chinese Financial Reforms

The Future of Chinese Financial Reforms

Hard landing

Many will say China should have seen this coming. After a period of growth which established China as the second largest global economy, it is now in its 47th consecutive month of economic decline, with just a 6.9% growth in 2015- a 25-year low. As a result of his poor handling of the stock market crash last year, Xiao Gang, chairman of China Securities Regulatory Committee (CSRC), has been forced to resign.

Serious questions are being asked of the State’s capacity to detect changes and respond swiftly and appropriately to them in the market. But despite the turbulence, the Chinese government has come to accept that reforms need to be made in order to get growth back on track.

Combating overproduction

The main focus for financial reforms will be China’s overproducing sectors. The steel industry, which contributes 50 percent of the total steel produced globally, is the biggest culprit, having produced 90 million tonnes in lost capacity over the past three years.

But there are similar issues in other industries, such as coal, glass and cement. Recognizing the problem, the government is beginning to cut back, with 1.8 million jobs expected to be lost in the steel industry over the coming year, and a fund of 100 billion yuan to cushion the blows to workers.

Beijing has announced its ‘long-range plan’ to extract surplus production capacity from industries where supply exceeds demand, although its proposals seem problematic. If, as intended, they push excess capacity overseas, flooding foreign markets with more cheap goods, China risks intensifying trade frictions.

Moreover, despite calls for consolidation among China’s state firms, there is little evidence of declining capacity in many of the worst-hit sectors: 2 billion tonnes of gross new capacity in coal mining is set to open in the next 2 years.

Putting reserves where your mouth is: China’s financial market reforms

The People’s Bank of China (PBOS) has shown its intent to stimulate domestic demand with credit, resuming its easing cycle last week by injecting $100 billion worth of long-term cash into the economy. It has also cut reserve requirement for the fifth time sine February 2015, taking the ratio to 17 percent for the biggest lenders in an attempt to bolster short-term growth. This comes as a surprise to some given the government’s initial strategy to rely more on smaller daily boosts of capital.

Another of China’s financial market reforms was proposed at a G20 conference in late February, with vice finance minister Zhu Guangyao stating Beijing could increase its fiscal deficit- one PBOC researcher wrote in an article that the deficit could exceed 4 percent this year.

But regardless of an increase in liquidity, the Chinese currency still faces a long road to recovery following its collapse in mid-2015. Share prices fell in most Asian markets last Monday, the Shanghai benchmark falling by almost four and a half percent that day. However, in a shift to a more market-oriented exchange rate, the PBOC insist they will avoid devaluation and allow the yuan to drift lower against the dollar.

Every smog has a silver lining

Questions remain over both China’s ability to manage its currency and its commitment to wider restructuring reforms. Even if reforms are successfully implemented, It looks like a bleak 2016 for the economy. Nevertheless, some have pointed out that, beneath the mask of overproduction, there are elements of modernization beginning to appear in Chinese industry. For instance, following the closure of Baosteel Group due to dirty old mills, a new cutting-edge, eco-friendly complex has been built in Guangdong with nearly 9m tonnes of capacity.

Indeed, as the old industrial sector fades out, a more modern one will appear. But until effective financial reforms are enforced, the wait for such expansive modernization will continue.

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