Spillovers from China

The slide in most stock exchanges in Asia that was triggered last Friday by a tighter monetary stance in China, and which still continued, though at a much slower pace, in the first few days of this week, serves only to demonstrate the increasing interdependence between the world's fourth-largest trading nation and the rest of the region.

Slower economic growth in China would surely have a negative impact on most major trading countries in Asia, which have thus far been receiving a significant boost from robust annual expansion of almost 10 percent in China over the past 15 years. Especially over the last decade, the structure of intra-East Asian trade with China has been transformed by the emergence of intricate and sophisticated production networks between countries.

The high pace of economic growth in China for almost two decades has indeed made its manufacturing sector sizzle with an insatiable appetite for raw materials. Analysts, for example, have estimated that China's oil demand has been rising by almost 30 percent a year, making it the world's second-largest oil importer after the United States. China also accounts for almost 50 percent of the world's concrete consumption, 40 percent of global steel consumption and 35 percent of the world's coal consumption.

In fact, according to a report from the World Bank, the boom in the Chinese economy has contributed to as much as half of the export growth in many other Asian countries over the past two years.

However, allowing such overheating to continue much longer within the Chinese economy could risk wild volatility in the region and a hard landing for the Chinese economy, with great implications for the entire region, especially East Asia, which has just recovered from the 1997 economic crisis.

The Chinese government has therefore been trying to cool investment gradually since last September through a variety of measures. It curbed bank lending and issued administrative orders for clampdowns on inefficient and duplicated projects and for changes in bank reserve policies to sterilize foreign currency inflows.

Chinese Premier Wen Jiabao reiterated, in a report to the National People's Congress in early March, that the government's top priority would be to place the economy back on track to prevent steep rises or declines in development.

Consequently, the World Bank predicted, in its latest report on Asia last month, that China's economic growth would most likely decline from 9.1 percent last year to around 7.7 percent this year and 7.2 percent in 2005.

Premier Wen again stressed, in an interview with Reuters last Wednesday, the government's resoluteness to cool down investment in order to prevent the Chinese economy from experiencing a hard landing, with all its adverse implications for regional trade and growth.

He said his government would continue to take forceful and effective measures to address existing problems in the economy such as excessive growth in fixed asset investment, credit and money supply, and growing inflationary pressures.

Official sources confirmed last Thursday that the People's Bank of China (the central bank) was about to raise the country's commercial bank lending rates by a half of one percentage point to 4 percent and was considering a 0.25 percentage point rise in the deposit rate.

China's banking regulators also ordered banks to control loans to red-hot sectors such as steel, cement, property and automobiles, and instead boost loans to the power, coal, oil, transport and water-supply sectors to ease shortages.

Any growth slowdown in China would certainly result in a slower pace of growth in its imports from other Asian countries, and this would in turn weaken external demand for a wide variety of manufactured goods and raw materials from other countries, including Indonesia.

However, the sudden slide in major Asian stock exchanges and foreign currency markets last Friday also reflected in part a panic reaction, which will be rectified within the next few days after a more thorough analysis of the impact of the Chinese monetary policy is completed.

Directing China's economy toward a soft landing will remove one of the greatest concerns of the international community. But another nagging problem -- the right level for China's currency and the appropriateness of its exchange rate regime -- still awaits final resolution.

Premier Wen has assured the international market that his government would be prudential with regard to the method and timetable for reform of the Renminbi exchange rate mechanism, asserting that its exchange rate would essentially be kept stable at a balanced, reasonable level until a market-based exchange rate mechanism were firmly established.

Given the structure of its economy and its relationships with other economies, most analysts have recommended that a well- prepared regime for a more flexible exchange rate would best serve China's ability to manage its own economy and help maintain stability in the region. _____