China Quarterly Update, February 2008

February 19, 2008
FEATURING

Thank you very much for submitting your questions and taking part in the discussion. Apologies for the technical problems that prevented the answers from showing during the first part of the chat. We'll be sending out a transcript soon to all who submitted a question.

According to the latest World Bank China Quarterly Update, China's economic growth has begun to inch down from its record rates earlier in 2007, while food prices are lifting inflation. The update finds that the global outlook has weakened and is uncertain, but concludes that China is likely to grow robustly in 2008 and is well-positioned to stimulate demand if needed.

The report also includes an explanation of how the recently released improved estimates of China's GDP affect our understanding of country economies and of poverty rates.

Dr. Ashish Manohar Urkude:
All countries in the world are trying for "Inclusive Growth" and are trying to reach the riches at the bottom of the economic Pyramid. Dr. David Dollar and Dr. Louis Kuijs, can you please throw some light on this issue from “China Perspective”?
David Dollar:
China is an interesting case of rising inequality accompanied by rapid poverty reduction. In recent years rural incomes have been rising at about 5-6%, while incomes of the wealthier urban populations rise at 10%. So, the Gini measure of inequality has continued to increase, reaching a level now about the same as in the U.S. At the same time, the income gains in rural areas are enough to rapidly move people out of poverty. The share of the population below our "cost of basic needs" poverty line declined by one-third between 2004 and 2007 (from 10% to 7%). Another factor supporting inclusive growth is that each year millions of people relocate from low-productivity rural employment to higher productivity urban employment.
Dr. Ashish Manohar Urkude:
Honorable Dr. David Dollar and Honorable Dr. Louis Kuijs, if possible can you disclose to the world the real secrets behind China's Robust and Sustained Economic Growth?
Also, is it possible that with some minor variation/s in variables, similar model can be replicated in other parts of the world?
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Dr. Ashish Manohar Urkude, Alliance Business School, Bangalore, India.
David Dollar:
China provides many interesting lessons that other developing countries can learn from. I would highlight four factors that have helped it grow well: (1) it is very open to foreign trade and direct foreign investment (but not portfolio flows); (2) it has developed good infrastructure in roads, rail, ports, power, and telecom primarily through a "cost recovery" policy that prices those services high enough to pay for the investment and maintenance; (3) dozens of cities have created good investment climates for the private sector and these cities compete with each other to attract investment; and (4) Chinese people (though not necessarily the government) investment a lot in education.
Charlotte Kautt:
Is there an estimate available, how the 1$ a day poverty line has changed in terms of RMB due to your new PPP estimates?
David Dollar:
The poverty line we prefer to use is 888RMB of consumption; this is an estimate of what is needed to provide 2100 calories per day and the other basic necessities of life. It happened that at the old PPP estimates, this line was almost exactly $1 per day at PPP. With the new price estimates, this line will now be less than $1 per day, and the new $1 per day line will be somewhat higher. The World Bank research department has not yet published a final estimate. But they have given us a range into which the new poverty estimate will fall: the old $1 per day estimate was 64% in 1981; that will rise to somewhere in the 71-77% range; the old estimate for 2004 was 10%; that will rise to the range of 13-17%.
Dr. L. R. Dankerlin:
How are Chima'sculturally distinct peoples (e.g., Mongolian herders) faring, given recent economic reforms?
David Dollar:
China has more than 50 ethnic minority groups scattered around the country. Some live in relatively isolated western or mountainous areas. These areas have had some economic growth but not as much as in the dynamic coastal areas. Poverty has declined for ethnic minorities, but not as quickly as for Han Chinese. The World Bank has a number of projects that benefit ethnic minority populations. "Basic education in the west" supports literacy in native languages. The soon-to-be-approved "Guizhou cultural heritage preservation project" will help ethnic communities in the poorest province of China preserve their living heritage.
dan berg:
We find on p. 1: “The inflation concerns call for relatively tight monetary policy.” P. 6: “…it does not seem that inflation is due to excessively loose monetary policy.” P. 9; table 1: consumer prices are expected to FALL from 4.8 to 4.6%. P. 11: Inflation …is the issue that currently concerns policymakers the most.” P. 12: “there was no monetary tightening in 2007”. P. 5: “…there has so far been little domestically-generated overall inflationary pressure in China.” How do you define “inflation?” Clearly, a temporary spike in some food prices does not constitute “inflation.” Why should policymakers be concerned? They have ample foreign exchange reserves to buy all the food they need. How do you respond to those who argue that inflation is driven by artificially low exchange rate?
Louis Kuijs:
The definition of inflation is a rise in prices. High food prices, caused by price hikes on the international markets and domestic supply problems, pushed up inflation in 2007. In January 2008 consumer price inflation reached 7.1 percent. Inflation eats into people’s purchasing power. If not contained, it also threatens macroeconomic stability. That is why China’s policymakers, as policymakers in other countries, are concerned when inflation is rising. So far, the high food prices have not spilled over into overall inflation pressures. However, some of this spill-over has happened, and the authorities are right to be keen to prevent large scale spill over and contain inflation pressures. As we mention in the quarterly, we agree that, in the face of price pressures on international markets, a strong exchange rate helps dampen price pressures. The government seems to be of the same view: the pace of appreciation against the US$ has increased since the fall of 2007, and is expected to remain considerable.
Reynaldo:
¿China economics how to support the USA crisis, because it´s Econocics is growing for already 10 year?
David Dollar:
I don’t think I would call the downturn in the U.S. a "crisis," but an important theme of our quarterly report is that the U.S. economy is slowing and that this will affect China and the rest of the world. We are cautiously optimistic, however, that China will continue to grow rather well – our projection is 9.6% for 2008 – and that will help support global growth and make it easier for the U.S. to resume healthy growth.
ASHISH BHASIN:
Of the total 14 big rivers , 11 are most polluted affecting the life of millions . whats the take on that , besides the surmounting air pollution and the hazards of incessant industrialisation?
David Dollar:
Industrialization has had very significant pollution costs for China. In the case of water pollution the situation has improved somewhat in recent years. Over 90% of industrial discharge is treated, so that industry is no longer the main source of water pollution. The biggest source is un- or poorly treated household waste (only slightly more than 50% of urban household waste is treated). Most cities are investing rapidly to expand waste-water treatment, so water quality is likely to continue to gradually improve. Agriculture is also a major source of water pollution through run-off of fertilizer and pesticides. This is harder to change because it involves hundreds of millions of peasants. What is needed are extension services for farmers to better understand fertilizer and pesticide use; effective bans on the most dangerous chemicals; and consumer movements raising awareness about safe food.
Deborah Chu:
How does the Chinese government reign in the problem of migration workers?

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What's China's energy policy and its role as one of the world's economic powerhouses?

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How does China manage its exchange-rate problems when dealing with influential developed countries?
David Dollar:
Migrant workers are both a challenge and an opportunity for China. The fact that so many rural people want to move to cities indicates that they have better economic opportunities there. China has a registration system that to some extent manages migration. Even with this system in place, 200 million people or so have moved to cities in the past 20 years. The World Bank is working with three Chinese provinces on improving the training and employment services for migrants so that they integrate more successfully into urban life. Programs to help migrants get skills, find jobs, and get access to social services in their new location can help China sustain its rapid growth and improve the lives of the rural population.

China will soon emerge as the largest user of energy in the world, while its domestic supply of energy is modest. Because of rapid global growth and dwindling supply, traditional sources of energy are becoming more scarce. China recognizes the scarcity issue and has set a highly amibitious target to increase energy efficiency by 20% during its current five-year plan. It has a number of ambitious administrative measures: closing less efficient power plants, raising fuel-efficiency standards of cars beyond the U.S. level. However, in my view it is not sufficiently taking advantage of market measures. China does not pass the full cost increase of petroleum in the world market through to its consumers. Its energy prices are similar to the U.S. If it followed a European policy of higher energy prices it would cut its energy use significantly. China also has an ambitious program to develop renewable energy sources and to increase their role in the overall energy mix.

SUBBIAH:
I would like to know about the status of livestock sector in their economy.In India, the sector enjoys natural growth. The planned government programme consider livestock sector secondary to agriculture. Though the sector brings more than 6.5% of GDP the expenditure is less than 1%. I would like to know who does what with reference to livestock sector Bear with me for an unexpected question.
David Dollar:
In China the livestock sector, like the rest of agriculture, is primarily managed by private farmers. The government provides some support in the form of extension services, but the development is mostly based on private investment. Agriculture overall has been growing at a healthy rate of 4-5% in recent years. Further grain production has only modest potential, so that most of this increase comes from livestock, fruits, and vegetables.
GETAZ:

What is the percentage of FDI in Chinese AGRICULTURAL SECTOR?
David Dollar:
The percentage of FDI going to agriculture is very small. Most FDI goes to manufacturing, and some goes to service sectors such as banking and hotels.
Yves Kalambay:
Hello,
Is there an overheating economy in China? What are the indicators that we can use for the overheating economy in China?
Louis Kuijs:
We do not think that China’s economy is significantly overheated. We belief that the rapid growth in China has been combined with rapid expansion of the capacity to produce ("potential output" has grown broadly in line with actual GDP growth). That is why we think that China has not seen significant excess demand and domestically generated inflation pressure of the type that we often see in other emerging markets when they grow rapidly. Although food prices have increased drastically (see answer to Dan Berg’s question on inflation for the reasons), non-food inflation remains at 1 – 1.5 percent year on year. Other indicators that support the judgement that China’s economy is not significantly overheated are that there are no systemic bottlenecks in the real economy and there is no current account deficit.
Chris Jeffery:
How material is the increase in FX sterilisation costs that results from US rate reductions? Will the costs influence the policy of moderate FX appreciation? Why is the CNY allowed to drift lower against the Euro when the PBoC are fighting against inflationary pressure?
Louis Kuijs:
With international interest rates falling and Chinese rates increasing, the net gain/cost to the PBC is becoming less favorable. And the impact is material. For instance, every 1 percentage point of lower US treasury bond yields would mean about US$ 10-15 billion less revenue for the PBC against its cost of domestic liabilities. Up to some limit, we would not expect the cost of sterilization to be a dominating factor in determining policy. But there are limits. With the RMB traditionally anchored around the US$, fluctuations in the US$/euro rate indeed affects the RMB exchange rate. We agree with governor Zhou, who has noted that with trade with countries other than the US increasingly important, China’s exchange rate should increasingly be looked at in (trade weighted) effective terms, rather than in terms of the US$ rate. The more rapid pace of appreciation against the US$ in recent months is likely to be motivated at least in part by the desire to dampen price pressures.
ASHISH BHASIN:
most of the china is very well developed , yet when we go to the interiors and some provinces up north , it gives a very dismal picture .. why the growth and development is restricted to only south and some provinces around shanghai and beijing .. what are the development prospects in northern provinces as inner mongolia ( part of china ) , which has huge mineral deposits yet no development .
David Dollar:
Development has been faster in coastal cities because of their better location and their earlier moves to reform. All parts of China have experienced rapid growth and poverty reduction, however. China overall still is only a country with $2,000 per capita GDP, so many interior locations look poor. But if you saw them 20 years ago, they were far poorer then. Many of the interior parts of China are now growing very well and central provinces certainly have the potential to develop successfully. But some parts of the north such as Inner Mongolia, Shaanxi, and Shanxi are severely water-stressed, and that limits their potential. It would be economically rational for some people to migrate out of these water-stressed areas to other parts of China.
Laura Henry:
We here reports that China is adopting a "green methodology" for national income accounting. Can you explain how this is different from the current method and whether this will make any difference in the statistics reported by the World Bank on China's GDP?
David Dollar:
The State Environmental Protection Agency has been working with the World Bank to estimate the costs of pollution in China. For example, we estimate that the health costs of air and water pollution amount to 4.3% of GDP. In principle you can use these kinds of estimates to adjust traditional GDP measures to become "green GDP." Personally, I prefer to keep the two estimates separate, as this is more useful for policy. The traditional GDP measure tells you how much economic activity there is (value of all goods and services produced in China in a year). The estimate of the cost of pollution tells you that if the pollution can be cleaned up at a lower cost, then it would be net benefit to society to do so. In the case of China, many of the important steps needed to reduce air pollution are not that expensive so that it is clearly in the interest of Chinese cities to do so.
shuaihua:
Sir
as shown in your slides, all major data seem to indicate that China's new policy instruments are effective to cool down economy. For instance, Chinese policymakers want a more balanced balance of payment, then we see increasing imports. China wants more consumption, less processing trade, then your data show so too.
my question is:
is China's current economic transition effective and in a right direction? if so, what are three major problems?
David Dollar:
China in recent years has been the most successful developing country so we have to say its transition so far is effective. However, it faces a number of major challenges: (1) natural resource scarcity and environmental degradation; (2) growing social disparity, especially between urban and rural populations; and (3) macroeconomic imbalance (large and unsustainable trade surplus). The three problems are inter-related: spending more on social programs and environmental protection will help rebalance the economy away from exports towards domestic needs.
Jorge Martinez:
I live in Guangzhou since 2005 and have seen how the inflation is relative (as almost everything in China). On one side there is the reported inflation by the government and non government institutions, and on the other side there is the inflation that I have been facing which is just unbelievable, it varies from the 100% to the 1000% in several comodities, specially housing and food (which account for about 70% of my personal expenses). On the business side it has been quite different, I have suppliers that in 2 years have not increased their prices (actually the opposite and they use copper and steel) and others reflect price increases in around 30% to 50% within 1 year period (and they don´t use copper or steel). So, taking in consideration the above mentioned, how can we expect the behavior of the RMB against the USD for this year (I heard rummors that by the end of 2008 the exhange rate will be around 6 RMB per 1 USD)? Is the inflation after the olympics going to affect considerably the east coast of the country (such as my case in the PRD) or just mainly in Beijing and its surroundings? Thanks in advance for your consideration of my questions...
Louis Kuijs:
As you observe, increases in prices of food and housing have been particularly high recently. Housing prices are not captured by the CPI. Food is. And, indeed, prices of manufacturing products have seen much less price inflation. That is in part because of good reasons: rapid productivity growth. It is also because of relentless competition. The factors determining the RMB exchange rate are many. One important set of factors is the demand and supply of foreign exchange. On this account, we would expect to see further strengthening of the RMB as China' s external surpluses remain large.

The authorities can also decide to use a stronger exchange rate to offset high prices of imported products. China has done that in recent months, when it increased the pace of appreciation against the dollar. The expectation is that the authorities will continue along these lines. Market consensus is for an appreciation against the dollar of around 7-9 percent or so. As China trades increasingly with nations other than the US, it becomes increasingly important to look at China's trade weighted exchange rate instead of just the US$ exchange rate.

Wing Lam:
I have two questions: (1) What's your comment about slower growth in China may impact on the global economy? (2) Recently, the Chinese government has adopted several price control and export control measures to curb inflation and maintain food supply in the country. What's your comment about these measures and what will the implications to China's food strategy and trade policy? Instead similar measures appear to be adopted in neighbouring Asian countries, will this trend impact on a shift to trade protectionism?
Louis Kuijs:
For the moment, we mainly look at the impact of a slower world economy on China. At the moment, China's domestic economy is growing strongly. Thus, China may become a net driver of world growth in 2008. Given the increasing role of China, if sentiment were to turn and the domestic economy were to slow down, that would be a negative for world growth. (2) We think that price controls may be effective in the short run in containing inflation expectations. As time goes on, we feel that the negative incentive effects (no feedback from higher prices to increased supply) increase. That is why we think that price controls should be used sparingly and not for too long a time. To date, the administrative measures taken in reponse to food price pressure do not seem to have protection as a motivation. If the food price pressures last for long other measures, including direct subsidies, may be better.
Bob Zirkzee:
my name is Bob
im in my fourth year of highschool and we are working on a project on foreign economic developments... me and my partner chose china because it is in full uprise. can you sent me information about: labour force and prosperity?
forgive me my bad English
thank you in advance,
yours sinciraly

Bob Zirkzee
David Dollar:
China began its economic reform with 80% of the labor force rural and the other 20% mostly in industry. With little arable land per capita this left most of the population very poor. Quite a bit of China’s growth has been driven by gradually shifting labor force out of agriculture into industry and services. I would say that China is about half way through this transition. The process has increased prosperity for pretty much every household in China because urban jobs pay more than rural ones, migrants send remittances to relatives back in the countryside, and the out-migration improves the ratio of land to labor so that remaining farmers can earn more and live better. I have a paper you can access online with more details: "Poverty, inequality and social disparities during China’s economic reform"
Conor Griffin:
I haven't got the figures off hand but in recent years domestic consumption has been a major growth contributor in China. Globally this does not get the same attention that China's dynamic export sector gets.

I was wondering you think that the sheer size of ths growth in domestic consumption will not only insulate China from an impending global recession but also perhaps prevent the global economy itself from sliding into recession due to its increased demand forimports?
Louis Kuijs:
Agree. We always have a figure in our China Quarterly Update on the contribution to growth of domestic demand and of net exports. Even in the years 2006 and 2007, when China's trade surplus increased rapidly, more than 3/4th of growth came from domestic demand. In 2008, this share is expected to increase considerably.

We think indeed that as a large economy with robust domestic demand, China will be able to see decent growth even with a weak economy (see our quarterly for more specifics and details). And, indeed, given China's increasing role in the world economy (it is likely to be the country with the largest contribution to world GDP growth this year), China's robust domestic economy may help dampen the negative pressures on world growth coming from other parts of the world.

Nikola Horvat:
Is China in position to positivly efect the global slowdown by stimulating domestic demand?
Louis Kuijs:
If need be, yes. We think that, if need be, China can ease policies a bit to dampen the negative impact of slower world growth. We think that because China's macroeconomic position (including the fiscal one) is strong.
Ya-Lan Liu:
Your last revised forecast for China in 2008 of 9.6% is significantly lower than your previous estimate if considering just a mild slowdown of the external demand. How significant is China's domestic investment driven by exports? Is your revised forecast assuming any countercyclical measures and if so, which ones?

Thank you
David Dollar:
The projected slowdown of the U.S. economy is pretty significant so we feel that the mark down in our forecast is fairly modest: old earlier forecast for 2008 was 10.4%, so we have marked that down less than one percentage point to 9.6%. In recent year net exports have played a role in China's growth and we see that diminished. This will have some spillover effect on domestic investment as well. For the moment we do not anticipate countercyclical measures so that our forecast is based on the current policy stance. However, we note that there are downside risks in the global economy, and if the U.S. and global economy grows more slowly than expected, then some countercyclical measures in China would be called for. Current fiscal policy is conservative; if needed the government could easily stimulate the economy with temporary tax breaks or additional spending. That is another reason to be cautiously optimistic that China can still grow at 9+% despite a global slowdown.
sraboni pramanik:
help me in getting the data of chinese companies investment in india market.
research scholar
David Dollar:
I am afraid that the World Bank is not a good source for that kind of information. I would guess that the Indian government would be a better source of information on major Chinese companies investing in India.
antonia:
what's the impact of recent stock market fever on economic growth?
David Dollar:
We do not think that there is that strong a connection between the stock market and the real economy in China. Very few households are looking to stock market gains to fund their consumption. So, the recent correction in stock prices does not affect the vast majority of households. The stock market has also not been a major source of funding for new investment. Most of the dynamic private sector firms have had difficulty listing. That is beginning to change so that in the future the stock market could play more of a role funding investment. The correction that has occurred so far should not be a major deterrent to new firms listing.
Harrison Obi:
What are the major challenges in developing China into a world economic power, and how could that be applied to Nigeria in making it the economic hub of Africa and by extension the world
David Dollar:
China is on track to become a world economic power. Our answer to Dr. Urkude suggests some of the success factors that might be relevant to a large developing country such as Nigeria. Going forward, China faces some challenges to continue its successful development. First, it needs to continue to strengthen basic economic institutions such as the legal and financial systems; second, it is paying too high a cost for its growth in terms of environmental degradation and needs stronger measures to conserve natural resources and protect the environment; and third the large-scale rural-urban migration will continue for another 10-20 years, and managing that smoothly is both a social and environmental challenge.
Huixin:
In your opinion, how will Olymplic gams influence China's social and economic situation? For example, Greece has left a very good impression on the whole world by holding the 2004 Olympic games, and we can can still feel the aftereffect of this successful event. Do you think there will also be long-term benefits for China to hold this 2008 Olympic games?
Thanks
David Dollar:
Personally, I think that the Olympic games play an important role in increasing understanding among nations and peoples. I think that the Beijing games will help the rest of the world understand and appreciate China better. That kind of understanding helps underpin peace, stability, and economic relations. So, yes, I do think that the 2008 Olympic games will have long-term benefits for the global economy and for China.
Fan:
the data flow in January was pretty strong, do you think the PBoC will raise rates shortly to curb money supply growth?
Louis Kuijs:
We find it difficult to say on the basis of one month. But, yes, credit growth was very strong in January. Of course this was on the back of surpressed credit expansion in the last months of 2007. The coming months will tell more. However, as we note in the Quarterly, we think that the authorities will feel somewhat constraint in hiking interest rates and may use other instruments to keep money growth in check.
Professor John Wong:
Why are your China growth estimates always below China's official rate? What is the basis of your own estimates?
David Dollar:
We do our growth forecast based on our assessment and assumptions of the factors driving the "demand side": exports, imports, investment, and consumption. We spell out this assessment and those assumptions in our China Quarterly Update. Actually, in recent years China’s official growth projections (or targets) have been set rather low compared to both outside analysts including us and the final outcome. For instance, the official forecast or target for 2007 was 8 percent. Our projection for 2007 was around 10 percent (if I remember correctly), and the final outcome was a whopping 11.4 percent.
Nikola Horvat:
Possible measures in fighting the inflation in China, concerning the expectations towards renmimbi from debtors (USA and the others)?
Louis Kuijs:
So far inflation is concentrated in food, with little spill over to date and little obvious excess demand. That is why, while the authorities rightly work on having relatively tight monetary policy and manage expectations, including by some temporary price controls, the measures are not drastic. A stronger exchange rate (against the US$) is also used to dampen price pressures. In that sense, the RMB/US$ exchange rate is affected by China's inflation and the measures against it. However, how the RMB/US$ is affected by the other measures to fight inflation is difficult to say.