China's Financial System: Opportunities and Challenges

We provide a comprehensive review of China's financial system, and explore directions of future development. First, the financial system has been dominated by a large banking sector. In recent years banks have made considerable progress in reducing the amount of non-performing loans and improving their efficiency. Second, the role of the stock market in allocating resources in the economy has been limited and ineffective. We discuss issues related to the further development of China's stock market and other financial markets. Third, the most successful part of the financial system, in terms of supporting the growth of the overall economy, is a non-standard sector that consists of alternative financing channels, governance mechanisms, and institutions. The co-existence of this sector with banks and markets can continue to support the growth of the Hybrid Sector (non-state, non-listed firms). Finally, among the policies that will help to sustain stable economic growth in China are those that reduce the likelihood of damaging financial crises, including a banking sector crisis, a real estate or stock market crash, and a "twin crisis" in the currency market and banking sector.