Global community watches how China handles economy

All eyes will be on China for the next two weeks. As in the past, there are great expectations about the deliberations and discussions at the two sessions, especially on how China plans to deal with emerging risks and strike a balance between reform and growth.

On a more personal note, the two sessions also mark nearly a decade of my ongoing association with China, a journey that began just after the Beijing Olympics in 2008. It is clear that the two sessions will provide the scope, authority and oversight to the incoming administration to usher in a wide range of reforms and deal with emerging risks within the global trading system.

Most economists believe that although China has been quite successful with its deleveraging efforts in the past few years, the easy part is nearing an end.

Yu Yongding, a former president of the China Society of World Economics and director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences, said in a recent article that China's economic roller-coaster is headed for another climb and that growth will eventually stabilize at a decent rate. But as with most popular attractions, its passengers may have to wait a while. He said the government's continuing efforts to cultivate innovation and implement structural reform are likely to produce major returns.

Carl R. Tannenbaum, chief economist at Northern Trust, a US-based financial services company, said central banks around the world are hoping to reduce the size of their balance sheets and normalize interest rates in the coming years. This process will have to be carefully calibrated and communicated, and governments across the world will need to manage their borrowings carefully, lest they overly rely on fiscal stimulus and investors develop concerns about debt levels. While he did not allude to China's bad debt problems, it has been an area of concern for the country's policymakers, no doubt.

Aninda Mitra, a senior sovereign analyst at BNY Mellon Investment Management in Singapore, said raising the financial and regulatory cost of leverage has led to a sharp slowdown of shadow banking, lowered leverage per se and resulted in a de-risking of interconnected funding structures.

Mitra cautioned that China needs to sustain its deleveraging efforts in such a manner that it goes deeper into the heart of the matter, well beyond the monetary and regulatory tightening to encompass reform of State-owned enterprises.

"Such sustained efforts are what will begin to actually lower, and not just tenuously stabilize, China's aggregate leverage," he said.

Like Mitra, other economists agree that the next stage of reform will be critical, as it will determine whether State support for SOEs (and local government financing vehicles) will be diluted.

Mitra, for his part, said the reduction of moral hazard is crucial for risk-based allocation of capital. It will heighten near-term defaults and prove to be politically controversial, he said.

The other option would be to take the foot off the monetary and regulatory brakes and allow GDP growth to exceed the government's growth target. But that would inevitably result in a re-acceleration of leverage and risk-taking, including at less productive parts of the economy and behind the protection of State guarantees, he said.

Like previous years, the one area of policymaking where authorities will be looking for more clarity would be the centrality of the growth target itself as an anchor for policy and administration. While some economists are of the view that the growth target needs to be done away with once and for all, others like Mitra do not expect its outright dissolution.

However, all the economists are equivocal that China also faces formidable challenges. Tannenbaum said demographic challenges will pose problems for authorities in the years ahead. "Managing the aging of populations while sustaining economic vitality will be essential," he said.

Mitra said the biggest risk confronting China is the growing protectionism in advanced industrialized countries. "This is a risk that China will need to factor into its policymaking as it goes beyond just the US and could come in the way of its strategic technological and geoeconomic objectives."