China's policy-makers have done a fantastic job. For just over a year, gradual and targeted tightening of policy has helped take some of the heat out of the economy, yet, despite this, there are still genuine fears China will suffer a hard landing, as the economy slows sharply. This may be so, but should we really worry?
The reality is that as the Chinese economy opens up, policy-makers will lose some control. The important message is that the medium-term economic trend will be up, but expect increased volatility along the way. Presently, China is vulnerable to any dip in investment, following its surge in recent years with investment accounting for over 40% of GDP. Any setback could hit the economy hard but if there was a hard landing, its impact could be like last year's Sars epidemic: dramatic and headline grabbing, but only temporary.
Even though some sectors may have grown too quickly too soon, there is huge momentum in the private sector across the country. One need only visit China to see this.
Any economy has disparities and China is no different. Coastal and urban areas have done well, inland and rural areas not so well, even if rural incomes have risen recently. Presently there are between 95 million and 120 million displaced workers previously from state-owned firms or agriculture. This pool of labour is helping keep average costs down and on some calculations, the opening up of the west could see a future 285 million such workers.
Managing such economic change is huge. Currently there are resource constraints, particularly in power. China's demand for commodities is high and these issues will become more intense as rapid urbanization and economic affluence trigger huge demand for food and soft commodities. China's policy-makers are clearly aware of these challenges. The combination of longer-term structural issues, plus the need for short?term demand management had led to a successful policy of gradualism. This is particularly evident in financial and monetary policy.
A strong, growing economy needs an open, transparent and strong financial sector. One lesson from the Asian crisis was the need to deregulate one's financial sector at a pace that best suits the needs of the domestic economy and since then, we have seen globally the benefits international banks can bring, and not just in risk management techniques and best practice. Reform in the financial sector is proceeding well but still it needs strong economic growth to allow a smooth transition.
Gradualism is key and when it comes to the currency that too is the key message. There is no need for any big bang approach to the exchange rate.
China faces some significant challenges, especially in the near- term, yet China is also offering tremendous opportunities as economies in the rest of Asia are now finding out.