Markets Exchanges,riskregulation,Risk and Regulation,

Markets Exchanges,riskregulation,Risk and Regulation,

A wide range of policies will be discussed and a number of targets will be announced at the National People’s Congress meetings.

For our assessment of China’s sovereign rating, one key focus will be further insights on how the authorities are combining objectives of reforms, robust growth and financial and economic stability. Economic growth achieved through fiscal and monetary support without tangible reforms to address economic imbalances would lead to higher leverage in China. Contingent liabilities for the government would rise as a result.

In particular, in overcapacity sectors where deflation depresses revenues and profits and leverage is high and rising, debt servicing capacity would continue to worsen in the absence of specific restructuring measures. After this week’s announcements of large lay-offs in the coal and steel sectors, specific and enforceable reform programmes detailing the implementation steps and explaining any possible mitigation of negative consequences for the cities and regions affected would shed light on the likely effectiveness of these reforms.

Another major reform area relates to the opening of the capital account. With sizeable capital outflows in 2015 and a marked fall in foreign exchange reserves, questions have arisen about the policy choices facing the People’s Bank of China. Re-imposing capital controls to stem the outflows would be at odds with the objective of liberalising the capital account and could prove ineffective if controls are porous. Allowing the renminbi to depreciate to preserve foreign exchange reserves would risk fuelling further capital outflows. Attempting to stabilise the currency when there is downward pressure would necessitate a further run down of reserves. These three choices have negative implications for the economy and the financial system.

In the last 10 days, conflicting signals have been given about a further liberalisation of the capital account, with steps towards some opening of the interbank market followed by indications that some outward investment possibilities would be closed, at least temporarily. Lack of transparency about the transition towards a more open capital account raises uncertainty and risk aversion; it also hampers policymakers’ credibility.

Re-disseminated by The Asian Banker