The annual session of the National People's Congress (NPC), which is China's highest legislative body responsible for approving the country's national economic plan and the state budget, ended on March 15. Unlike the previous NPC sessions wherein short-term economic targets were at the limelight of discussions, this year's NPC session dwelled less on specific economic targets and more on China's longer-term vision of establishing a modern state enterprise system and achieving balanced development between the coastal and western regions.

China is currently in the final months of its three-year enterprise reform timetable, which aims to turn around most loss-making large and medium-sized state-owned enterprises (SOEs) by the end of this year. Given that the number of such firms was already halved to 3,211 by end-1999 from 6,599 at end-1997, it is very likely that the reform target can be reached as scheduled. After reducing the number of loss-making firms, the next phase of the enterprise reform is to convert most key SOEs into modern enterprises. The modernization process involves not only upgrading of manufacturing technologies, but also enhancing research & development ability. It also requires enterprises to base business decision-making on meeting market demand rather than maximizing capacity. Moreover, modern enterprises are expected not only to enhance their financial strength but also develop human resources to improve management expertise. Towards these ends, the government announced at this year's NPC to allocate RMB16.5 billion for upgrading the technologies of SOEs. On human resource development, Premier Zhu Rongji urged SOEs to experiment with private sector income distribution practices, such as performance-linked salary system and stock option schemes, to motivate employees and increase the efficiency of enterprises.

The development of the western region was another focus during this year's NPC. To narrow the income disparity between the coastal and western provinces, the government pledged to accelerate infrastructure development in the west. For this year, as much as 70% of the state sector's fixed asset investments will be channeled to the western region for the construction of highways, railways, electrical and telecommunications network in order to improve the physical infrastructure in these areas. The government will also attract foreign investors to fund the development in the western region by offering them preferential treatments such as lower threshold for investment entry and reduced tax rates.

As China moves closer to entering the World Trade Organization (WTO), the government is expected to push enterprise reform to new heights so that local companies will be able to compete with their foreign counterparts when China's market is liberalized. Meanwhile, helping the western region catch up with the prosperity of the coastal areas would restore balance in income distribution and improve the living standards of the region's over 300 million residents. Improved efficiency of SOEs and increased income for the western region population would in turn create new impetuses for China's continued economic growth.

At a time when the dominant state sector is still undergoing major restructuring, the government will continue with its proactive fiscal policy to spur domestic demand and promote economic growth. Government expenditure will thus increase by 11.4% to RMB1,463.7 billion in 2000. It should, however, be noted that unlike in previous years, the government is including the interest payment on government debt, which amounts to RMB74.9 billion, in its expenditure estimates this year to follow international standard. Taking out this item, the increase in government expenditure will be only 5.7% in 2000.

In line with the government's priority to modernize the state-owned enterprises (SOEs), funding for technical upgrading of enterprises will increase substantially by 170.5% to RMB16.5 billion this year. Expenditure for capital construction, on the other hand, will be scaled back by 39.9%, as China is still trying to clear the excess capacity built up in the economic system. Furthermore, with another five million employees expected to be laid off by the state sector during this year's reform process, total social security payment to the unemployed and retired state sector workers will be increased by 96.4% to RMB70.7 billion. This will serve to partially cushion the negative impact of rising unemployment on domestic consumption.

To fund this year's expenses, government revenue will increase by 8.4% to RMB1,233.8 billion in 2000. The shortfall of RMB229.9 billion will be financed by the issuance of treasury bonds. This year, the government will issue RMB438 billion treasury bonds, up from RMB401.5 billion in 1999. Of the total, RMB50 billion will be issued on behalf of local governments. Taking out the RMB50 billion, the central government will issue RMB388 billion treasury bonds, of which RMB158.1 billion will be used to repay maturing government debt, while RMB229.9 billion will be used to cover the budget deficit.

The recent victory of Democratic Progressive Party (DPP) candidate Chen Shui-bian in Taiwan's presidential elections has presented unprecedented challenges to cross-strait relations. The DPP has long been advocating independence of Taiwan from the mainland, although Chen has recently backed off from such claims. In his first public statement as president-elect, Chen reassured the public that neither he nor his party would upset stability by promoting radical or independence-seeking moves. Chen also offered to make a "journey of reconciliation" to China before he assumes office on May 20. There is, however, no evidence that Chen is willing to accept the principle of one-China and the goal of reunification, which are China's minimum requirements for any cross-strait dialogue.

Once a vocal supporter of Taiwan's independence, Chen would find it very difficult to accede to the one-China ideology. At a time when his hold on the island is still tenuous, Chen also cannot afford to risk alienating his own party by accepting China's reunification goal. Major breakthrough in cross-strait political relations under Chen's presidency is, therefore, not easy to accomplish. As the reunification issue continues to drag on, China is likely to step up preparations for a show of force as it had warned in a "white paper" issued on February 21 which set out the conditions under which China could use force against Taiwan.

Politics aside, however, Chen is likely to be more conciliatory with China than his predecessors on cross-strait economic and social exchanges. It is widely expected that Chen would agree to China's decades-old demand for restoring direct trade, transport and communication links with the mainland, which have been cut off since 1949. He would also probably abolish the "no haste" policy of outgoing president Lee Teng-hui which discourages large-scale private investment in the mainland.

Although it is unlikely that Chen would seek the radical independence move that would provoke a war with China, it is possible that China would step up military threat on Taiwan until Chen shows his faith on the one-China principle and the reunification goal. Against the uncertain cross-strait relations, financial markets in Taiwan, China and Hong Kong would at times be volatile, mainly guided by statements on Chen's policy towards the mainland and the corresponding reactions from China.

On March 21, Taiwan's legislature raised hopes of putting an end to the 50-year ban on direct trade, transport, and communication links with the mainland by passing the Offshore Islands Development Bill, which was first proposed in May 1998. Apart from opening direct postal links between Taiwan and mainland China, the bill also paves the way for the opening of sea transport links between Taiwan's three offshore islands, Kinmen, Matsu and Penghu and the mainland cities of Xiamen and Mawei on a trial basis.

Taiwan has banned direct trade, transportation and communication links (three links) with the mainland since its Nationalist government fled to the island in 1949. Since then, cross-strait trade must be routed through a third party, mainly Hong Kong. As cross-strait economic activities increased, the need to channel trade flows between China and Taiwan through a third party has become increasingly inconvenient to Taiwanese traders. This translated into both losses in time and money. Taiwanese companies have thus been pressing for a lifting of the ban on direct trade and transportation with China but the Nationalist government had resisted, fearing that growing reliance on China would threaten the island's economic independence. Since the agreement reached in January 1997 to open up shipping links for transshipment of international cargoes between Kaohsiung in Taiwan and Fuzhou and Xiamen in China, further liberalization of cross-strait links has not materialized.

Although the Offshore Islands Development Bill has been passed by Taiwan's legislature, details of its implementation still have to be worked out by Taiwan's Outlying Islands Development Act Group, Mainland Affairs Council and the Armed Forces Reserved Command and Coast Guard Command. The bill also needs to be approved by Taiwan's executive branch. As of March 29, the organizations tasked to work out the implementation details of the bill decided that they would not review their work with the outgoing cabinet until president-elect Chen Shui-bian takes over the administration on May 20. Once the bill is approved by the new cabinet, actual experiment of direct links will materialize after negotiation and signing of an agreement with mainland China.

The proposed experiment of direct links has largely been regarded as a symbolic goodwill gesture by Taiwan. In practical terms, as the three islands involved are too small, the relaxation is not expected to bring about any material change in cross-strait trade flows. Nonetheless, the move raised hopes for the eventual opening of "three links" between Taiwan and the mainland. If the ban on direct links is lifted, cross-strait trade is likely to expand even more rapidly. Indirect trade flows between Taiwan and the mainland grew from US$ 11.7 billion in 1992 to US$ 25.8 billion in 1999, and accounted for 11% of Taiwan's total trade and 7% of China's.

In a bid to increase the accountability of bank senior management, the State Council approved a new set of regulations for the supervision of state-owned financial institutions on March 21. “The Interim Regulations for Supervision Committees in State-owned Key Financial Institutions" stated the role of the supervision committees that will be set up in each state commercial and policy banks, asset management companies, securities firms, and insurance companies.

As stipulated in the new regulations, the supervision committees are responsible for ensuring that financial institutions are abiding by state laws and other administrative regulations. They will also monitor the institutions?financial and accounting activities, including aspects such as cash flows, asset valuation and profit distribution schemes. When it is deemed necessary, the committees can seek assistance from other government departments such as taxation bureaus and finance departments to carry out investigations on institutions. They will also appraise the performance of senior managers at the institutions and will have the right to recommend members of the senior management for promotion, demotion or termination of job. Despite their extensive powers, members of the supervisory committees would not in any way be involved in the management of the businesses nor affect any decision making process. The supervisory committees would report directly to the State Council, which is responsible for appointing committee members. To ensure the objectivity of the committees, the maximum tenor for each committee member at one institution would be three years.

Unlike private financial institutions where an automatic check and balance system on bank management works through the involvement of shareholders, state banks have to rely on the high integrity of authorities and strict regulatory implementation to contain management problems. With the establishment of the supervisory committees, the government hopes to improve the surveillance on senior management of financial institutions to reduce fraudulent incidences such as false financial results reporting, irregular fund use, diversion of funds, and false asset declaration.

On March 3, the People's Bank of China (PBOC) approved seven more foreign banks in the coastal cities of Shanghai and Shenzhen to conduct Renminbi business. The new addition raises the number of foreign banks with Renminbi operating licenses to 32 in China, of which 24 are in Shanghai and 8 in Shenzhen. Under China's World Trade Organization (WTO) deal with the US, all foreign banks will be able to undertake Renminbi business with Chinese companies two years after China's entry into the WTO, and with Chinese individuals in five years.

As restrictions on foreign banks are gradually relaxed, China is expected to step up efforts to enhance the competitiveness of the domestic banks. According to PBOC governor Dai Xianglong, China will gradually unify the supervision standards for domestic and foreign banks. For example, the favorable 15% tax rate that foreign banks are enjoying would be raised to 33% to match those of their local counterparts. Differences in the rules of interest rates on foreign currency deposits would also be removed. Currently, foreign currency deposit rates offered by Chinese banks could only vary on the basis of the maturity structure but not on the size of deposits, while foreign banks have the advantage of offering different interest rates on foreign currency deposits with the same maturity to attract larger deposits.

Meanwhile, domestic banks have also been stepping up efforts to improve efficiency to cope with the increased competition. In the past year, the industry had been busy improving asset quality through transferring problem loans to asset management companies. They had also stepped up loan collection and adopted more prudent approach in extending new loans. Following the listing of the Shanghai Pudong Development bank late last year, an increasing number of banks will also be seeking public listing to fund expansion and enhance competitiveness. Of late, domestic banks are also expanding product variety and participating more aggressively in the retail market through financing consumers?housing, automobile and education needs. Given a five-year grace period before full liberalization of foreign bank franchise takes place, domestic banks could take advantage of their better market knowledge, more established branch networks and customer relationships to head an early start in the competition.

Moreover, it would take quite some time for China to introduce the needed measures, such as expanding the onshore Renminbi forward market, to ease the impact of a wider fluctuating band for the Renminbi under a more flexible exchange rate policy. At present, only the Bank of China provides Renminbi forward contracts for importers and exporters to hedge against exchange rate risks, and the volume of the contracts is a meager US$ 30-50 million a day. It would, therefore, be pre-mature for China to adopt a more flexible exchange rate policy in the near future.

In the long-run, however, as China's foreign trade, which already accounted for 36% of GDP in 1999, will grow more rapidly after the country's accession to the WTO, exchange rate will inevitably become a more important macroeconomic policy tool for the government. The move to a more flexible exchange rate regime will, therefore, be necessary in the long run.