China Has Sufficient Forex Reserves, Continuously Adopts Flexible Fiscal Policies, IMF Says
Zhou Ailin
/SOURCE : Yicai
China Has Sufficient Forex Reserves, Continuously Adopts Flexible Fiscal Policies, IMF Says

(Yicai Global) July 25 -- China has sufficient foreign exchange reserves currently and external imbalance issues like been significantly improved since the financial crisis, according to the International Monetary Fund's latest External Sector Report.

The ESR is an annual report issued by the IMF to analyze global external development and present the latest assessment of external positions in the economy (including current account balance, real exchange rate, external balance sheet, capital flow, and international reserves).

For the year to date, several institutions expect China's trend of constant decline in favorable current account to continue. The ESR mentioned that China's current account surplus accounted for 1.4 percent of gross domestic product in 2017 (after cyclical adjustment), down by 0.4 percentage point annually. The IMF argued that this mainly reflects the accelerated growth of China's imports, strong investment growth, the appreciation of real exchange rate, weak demand among major developed countries, and a rise in service deficits. In line with the IMF's assessment, the proportion of China's favorable current account balance against the GDP is approximately 0.2 percentage point higher than the medium-term fundamentals.

China's net international investment position remains positive, but the NIIP-to-GDP ratio fell sharply to 15 percent from a peak of one-third percent in 2007. This change is mainly due to the decline in favorable current account balance, valuation changes, and constantly high GDP growth. As of the end of last year, total overseas assets accounted for close to two-thirds of GDP, most of which were foreign exchange reserves. Total liabilities reached 43 percent of GDP, mainly reflected in foreign direct investment inflows, according to ESR.

The NIIP is actually the difference between a country's assets and liabilities. For a long time, China's external assets have been dominated by the government. Reserve assets have been predominant. Between 2004 and 2008, reserve assets accounted for more than 65 percent of foreign assets. In contrast, US external assets have always been dominated by private assets. During the same period, American private assets represented over 90 percent of its foreign assets (excluding financial derivatives). China's external liabilities are mainly direct investment, followed by other investments. Securities investment accounts for the smallest proportion. Comparatively speaking, US external liabilities are mostly securities investment. Bond financing is its most important form of financing.

The IMF expected that, China's NIIP-to-GDP ratio is expected to remain strong, but may decline slightly in the medium term, which will be consistent with the projected changes in favorable balance of current account. NIIP is not a major source of risks at present, because assets remain high and liabilities are primarily related to FDI.

The IMF deemed that, overall, the RMB exchange rate is roughly in line with exchange rates implied by fundamentals and ideal policies. The IMF suggested that China adopt a more efficient floating exchange rate and strengthen domestic financial stability. In the meantime, China is expected to take measures to encourage FDI inflows, which will result in a positive effect of growth spillover and improve corporate governance standards.

In terms of cross-border capital flows, China's net capital outflow dropped to USD82.9 billion in 2017, indicating a sharp decline from record-breaking USD647 billion in 2015 and USD646 billion in 2016.

In the ESR, the IMF held that, China still has adequate FX reserves. In 2017, China's FX reserves rose by USD129 billion, while falling to USD513 billion in 2015 and USD320 billion in 2016, respectively.

China's FX reserve adequacy ratio is 97 percent in light of IMF's comprehensive index without capital control; that is 157 percent in accordance with the comprehensive index with capital control, down from 172 percent in 2016.

Both measurement indicators mentioned above basically reflect China's sufficient FX reserves and constant transformation to flexible policies on the RMB exchange rate, as stated by the IMF.

Editor: William Clegg

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Keywords: IMF , ESR , RMB , Foreign Exchange Reserve , Exchange Rate