Goldman Sachs China recently published its perspective on China's economy in 2008.  Liang Hong, the chief China economist for Goldman Sachs, projected that China's macro economy and financial market will be confronted with more challenges influenced by the unoptimistic U.S. economic perspective and China's overarching regulatory policies. In 2008, China's economy will center around four key terms: inflation, credit policy, trade surplus and the stock market.

Key term: Inflation

Goldman Sachs said this year's most important issue regarding the Chinese economy is inflation, and the corresponding policies to curb it. In the past few years, China has experienced rapid economic growth with low inflation rates; however, this golden phase will undoubtedly come to an end. China's surging rate of inflation in 2007 has become a very real threat that should not be ignored in the new year.

By the end of November, China's inflation had reached an 11-year high of 6.9 percent. Goldman Sachs said China's remarkable positive output gap has caused the inflation.

While inflation has been forecast to slow in 2008, this outcome largely depends on the assumption of a tighter monetary policy.

Key term concerned with financial markets: Credit Policy

Access to monetary and credit information in the first quarter will be crucial for investors  attempting to evaluate the effects of the current policy. At present, the central bank relies primarily on administrative measures to control loans provided by commercial banks. Goldman Sachs said that this move has had a negligible effect on commercial banks' loan decisions. According to media reports, the central bank has set 3.3-3.6 trln yuan for this year's loan target, the portion of the first quarter will account for 35%.  

Since the government continues to play an important role in China's financial market, Goldman Sachs assumes that credit rationing is still functional. Liang Hong pointed out that since domestic banks and enterprises are more business-minded, and China's economy is integrated more closely with the global market, credit rationing may not be as effective as it once was. Moreover, the longer the tight policy lasts, the harder it will be for the overheated economy to achieve a "soft landing."

What if banks provide large loans at the beginning of this year? In that scenario, Goldman Sachs believes the government would have to reconsider its policies, increasing the possibility of the currency appreciation and interest rates hikes. Goldman Sachs believes that allowing the yuan to appreciate is still the key to maintaining the rapid microeconomic growth. The value of the yuan is projected to rise 10 percent against the U.S. dollar this year.

Key term relating to the international economy: Trade Surplus

Statistics show that the U.S. economy is sliding into recession. Since developed countries are expected to face subsequent risks of economic downturn, Goldman Sachs said that, compared with last year, China's exports will fall in 2008 compared with that in 2007. China's trade surplus will drop accordingly.

Considering the contributions of exports to China's economic growth, the drop of trade surplus will result in a considerable slowdown in China's economic growth and the profit margins of industrial enterpries.

Key term for investment: Stock Market

Concerned about China's stock market, Goldman Sachs thinks the real challenge the Chinese market might face is the adjustment in the bull market, instead of the beginning of a bear market. Goldman Sachs is confident in China's overall economic situdation; however, it also warns investors of various uncertainties in the market this year.

Related:   BOC: China's Economic Growth to Slow Down in 2008

                NBS: China's Economy to Grow in Slower Pace in 2008

                China's Economic Development in 2008

                China's Overall Economic Performance

                China 2008 Yuan Rise Seen Under 10 Percent

                Another Good Year for China Stocks despite Slower Profit Growth