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UPDATED: June 28, 2010 NO. 26 JULY 1, 2010
Crisis Focus: WB Advice

Despite the negative impact of the European debt crisis, the global growth outlook remains favorable, largely because of the strength of emerging markets. China, as the largest emerging economy, has contributed handsomely to the global economic recovery. In China, after a rapid start at the beginning of the year, growth is likely to ease, mainly because of a partial normalization of the macro policy stance and recent property measures, said the World Bank in its latest China Quarterly Update released on June 18. Edited excerpts follow:

China's economy has continued to grow robustly, despite the recent slowdown. So far in 2010, the slowdown in government-led investment after last year's massive stimulus has partly been offset by strong real estate investment. Household consumption growth has held up well, reflecting a favorable labor market. Despite a rapid recovery of export volumes since the trough in early 2009, China's trade surplus has declined further due to surging import volumes and declining terms of trade. Inflation has picked up somewhat, but core inflation remains low. However, soaring property prices triggered tough property-specific measures. Leading indicators and industrial production data suggest some deceleration to a still rapid rate of growth.

GDP growth for 2010 is projected to be 9.5 percent, and 8.5 percent for 2011, with risks both ways. Growth should be less investment-driven this year and benefit from more favorable external trade. Consumption is likely to remain supported by a strong labor market. The external surplus should decline somewhat further this year. Inflation is likely to remain contained this year by the absence of price pressures globally while a wage-price spiral is not likely.

Such prospects warrant further normalization of the macroeconomic stance, while remaining flexible. Further consolidation of the overall monetary stance is needed to contain the key macroeconomic risks. Substantial uncertainty around a favorable baseline projection calls for policy flexibility rather than continued stimulus by default. The central authorities are rightly aiming to control lending by local government investment platforms. However, interest rates remain low. China could usefully let interest rates play a larger role in monetary policy. If policymakers remain concerned about capital flows, macro prudential regulation and more exchange rate flexibility would help.

Policymaking needs to take into account several features of the medium-term outlook. Considering the prospects for its key determinants, trend growth is on course to decline between 2010-20, but to a still respectable rate. The contributions from labor and total-factor productivity are likely to decelerate somewhat while, with some rebalancing expected, capital accumulation should also slow. In setting growth targets for the coming decade, the likely slowdown in potential growth needs to be acknowledged. The expected deceleration of potential growth also places a premium on policies that can increase sustained productivity growth, including via more reallocation of labor, enhanced human capital and innovation.

Moreover, further reforms are needed to ensure economic growth remains sustainable socially and with regard to energy and the environment. Fiscal policy reforms in several areas are key in this effort. Additional reforms in social protection and labor market arrangements are important both to foster productivity growth and improve social outcomes. The government's intention to strengthen the role of private enterprises in the economy and remove barriers they face is welcome. In this connection, it would be useful to clarify the role that the government envisages state-owned enterprises to play in China's economy.

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