Regions and Countries

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p. 2 of 4 BACK | NEXT I. Current Development Trends and Issues II. Implementation of the Country Strategy and Program III. Portfolio Management Issues IV. Country Performance and Assistance Levels

Country Strategy and Program Update 2005-2007: People's Republic of China

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II. Implementation of the Country Strategy and Program

A. Progress in Poverty Reduction¹¹

7. The PRC is ahead of schedule in achieving many MDGs¹² (see Appendix 1, Table A1.1). The number of people living on less than $1 a day dropped from 374.8 million (33% of the population) in 1990 to 211.6 million (16.6% of the population) in 2001.¹³ According to official statistics, the rural population living in absolute poverty declined from 85 million in 1990 to 29 million in 2003. The number of absolute rural poor with incomes below CNY637 per year increased by 800,000 in 2003, the first increase since the economic reforms began in 1978. In May 2004, the government, drawing partly on ADB-financed work, identified some new approaches to poverty reduction and committed to increasing funding for poverty reduction.¹⁴ Most of the remaining absolute rural poor live on degraded land unsuitable for human habitation or cannot participate in the market economy because of age or disability. ADB has recommended that the government establish a minimum living standard protection system in rural areas, similar to that in urban areas, to cover the remaining absolute rural poor. The government is considering this policy suggestion. Poverty is a multidimensional problem. The PRC has significantly progressed in achieving most of the non-income MDGs (access to basic education, taking into account costs of environmental damage in assessing economic growth, and maternal mortality). However, additional progress is needed to achieve the MDGs related to gender issues (primary and secondary school boy/girl enrolment ratios, job opportunities for men and women), human immunodeficiency virus/acquired immunodeficiency syndrome (HIV/AIDS), safe drinking water in rural areas, child mortality, and environmental damage.

8. The CSP for the PRC outlines ADB’s strategy to support the government’s ongoing poverty reduction efforts. The majority of the poor live in the central and western provinces, a region that lags behind the eastern provinces in achieving the MDGs. The majority of ADB’s lending, particularly infrastructure lending, is targeted in the poor interior provinces to help to create a climate for pro-poor economic growth. Ongoing ADB financed policy work is addressing poverty related issues in health, education, social protection, nutrition, land degradation, access to clean drinking water, and sanitation in rural areas. The program includes continued support for the government’s fight against poverty (e.g. housing policy for rural migrants; rural development in mountainous areas in Ningxia Province; improving basic education in underdeveloped areas through information and communication technology phase II).

B. Progress in the Country Strategy and Program Focus Areas¹⁵

9. The government’s long-term development objective is to establish an all-around well-off society by maintaining steady economic growth and improving people’s living standards.¹⁶ To support the government’s strategy, ADB’s operations are focusing on four pillars: (i) promoting equitable and inclusive growth, (ii) making the markets work better, (iii) improving the environment, and (iv) promoting regional cooperation. Total ADB annual lending is under 0.2% of total fixed asset investment. ADB’s value added will be through the innovation/best practice/demonstration effects of projects and its knowledge transfer and strategic/policy influence rather than financial transfers. To implement results-based management (RBM), there will be more effective monitoring and supervision of individual operations to measure the program’s performance. A set of indicators and sector roadmaps was developed to monitor the success of CSP implementation. The CSPU has taken the efforts to strengthen the monitoring of program results one step further by developing a matrix within a RBM framework. During the program period, RBM will be used to judge the quality and impacts of the program, to sharpen the design of interventions, and to provide a mechanism to better monitor ADB’s operational effectiveness. A pilot RBM framework matrix was prepared to provide an operational management tool to assess the progress and quality of the PRC program in addressing its strategic objectives (see Appendix 2). Based on the experience to be gained in 2005, the matrix will be updated and improved in subsequent country strategy and program updates (CSPUs).

1. Promoting Equitable and Inclusive Growth

10. Sustained economic growth is essential to reducing poverty. The benefits of growth must be inclusive and reach most people, particularly the poor. Although major economic and social indicators have improved during the past two decades, income distribution has deteriorated in the PRC. There are growing inequalities between the coastal and interior provinces, and between the urban and rural populations. Disparities have widened in education, health, social security, and by gender .

11. During the 2005-2007 program, 65% of lending and 41% of nonlending is designed to support equitable and inclusive growth. Over 80% of the lending will be in the poorer inland provinces, home to the majority of the PRC’s poor and many ethnic minorities. The program is dominated by infrastructure lending, especially for transport¹⁷ ($2.6 billion to finance 500 km of roads¹⁸ and 2,556 km of railways in the central and western provinces). The outcomes of these ADB’s operations will be judged by reduction in transport costs and speed of economic development in the project areas. Ongoing TA is supporting the development of a better methodology to monitor the impact of ADB projects on poverty.

12. The program includes knowledge-based products to help address policy issues related to pro-poor economic growth in areas related to fiscal reform (e.g. agricultural taxation, fiscal expenditure efficiency evaluation, and supporting the revision of the Budget Law), social sector development (e.g. distance education in poor areas, rural health, and nutrition) and social security reform (e.g. rural pension system reform and supporting the social security fund). Poverty-related work will address issues related to poverty and the energy sector, using SMEs to reduce poverty, housing of rural migrants, and a rural water supply strategy. The results of these knowledge-based products will be judged by the degree that the government adopts policies that are consistent with the recommendations of the related studies.

2. Making Markets Work Better

13. To win its war on poverty, the PRC needs to create 15-20 million nonfarm jobs each year to absorb new labor market entrants, re-employ redundant workers from state-owned enterprises, and allow some of the 150 million surplus rural laborers to exit the agriculture sector. The private sector will be the engine for job creation.¹⁹ Although the emergence of the private sector is one of the most significant features of the reform period, entrepreneurs continue to face many constraints.²⁰ Many new rules and regulations have been promulgated and new regulatory agencies have been established. However, there are still some problems related to transparency and weaknesses in enforcement. Developing an enabling environment for the private sector and making markets work better requires further progress in all dimensions of governance²¹ and stamping out corruption. The 2004 auditor-general’s report found that despite the government’s war on corruption, additional steps are required to address fraud, misuse of funds, tax evasion, false financial statements, and irregular bank lending. The auditorgeneral did not find instances of fraud, corruption, or misuse of funds associated with ADB projects. Discussions are ongoing regarding the possibility of the PRC in joining the ADBOrganization for Economic Co-operation and Development (OECD) Asia-Pacific Anticorruption Initiative. The program includes assistance to help implement the Procurement Law and to strengthen the State Key Project Inspectorate Office of the National Development and Reform Commission (NDRC). During the 2004 country portfolio review (CPR), the government reiterated its intention to fight corruption. During the program period, ADB’s Office of the Auditor-General will (i) provide a presentation to the government on how to detect procurement fraud and corruption, and (ii) undertake a forensic review of the audited financial statements for one project.

14. The 2005-2007 program allocates 38% of nonlending and 26% of lending to help make markets work better. Surveys of international and domestic companies found that good infrastructure, especially better transport in the interior provinces, was a critical condition for markets to work efficiently. However, better policy and institutional infrastructure are also needed to make markets work better. ADB’s contributions in this area will be mainly through knowledge-based products. Examples of areas in which ADB will be involved include (i) promoting the rule of law through a series of technical assistance (TA) projects to support the drafting of economic laws²² and to build judicial capacity in the area of economic and financial laws; (ii) financial sector reform (e.g. bond market development, risk management systems for small- and medium-sized banks, managing banking risks, and housing finance); and (iii) SME development. Indicators used to monitor the impact and effectiveness of these operations includes the number of ADB-supported economic laws/regulations adopted and the adoption of new government policies supported with ADB’s assistance.

3. Improving the Environment

15. Economic growth is exerting increasing pressures on the environment in the form of land, air, water, and solid waste pollution. Although environmental degradation slowed in the 1990s, it was not reversed. Land degradation, desertification, and air pollution remained severe. Investment in wastewater treatment is insufficient to meet the 10th FYP target of cleaning up the PRC’s lakes and rivers. About 31% of the lending program and 21% of the nonlending resources will address the environmental pillar of the CSP. The outcomes of this assistance program will reduce water pollution in the provinces of Henan, Jilin, and Shandong; and the cities of Nanning and Wuhan by expanding the wastewater treatment capacity to meet the state target of 60-70% treatment rate by 2010.²³ Energy-related environmental projects will reduce air pollution in Jiangsu, and promote renewable energy and energy conservation that will contribute to reducing greenhouse gas emissions. ADB will also finance a modest number of projects to address green side environmental issues and agricultural wastes. The PRC- Global Environment Facility (GEF) Partnership on operational program 12 (OP12) provides a mechanism for ADB to play a leading role among donors in addressing policy, legal, and institutional issues and to finance land degradation projects. Knowledge-based products will address environmental legal and policy issues related to water and soil conservation, nonpoint pollution related to fertilizers and pesticides, integrating economic and environmental management in the western region, and reducing air pollution in Beijing. Monitoring the impacts and effectiveness of ADB’s operation in this area include making contributions to improving environmental policies and regulations, and contributing to containing land degradation as well as air and water pollution.

4. Promoting Regional Cooperation

16. Increased regional cooperation and trade can help other Asian countries benefit from the PRC’s rapid economic growth and integration into the world economy. Regional cooperation will help address poverty since the poor are disproportionately represented in border areas. ADB’s contributions in this area will continue to focus on the ongoing ADB initiatives for subregional cooperation, particularly in transport and trade, in the Greater Mekong Subregion (GMS), and the Central Asia Region Economic Cooperation (CAREC). While many of the road projects in the program are part of the Pan Asian Highway Network, more policy dialogue is needed to include projects that are directly related to regional cooperation in the future program. Most of ADB’s support for the policy/institutional issues related to regional cooperation is in the form of regional technical assistance (RETAs) which are listed in the regional CSPs. ADB’s ongoing work in regional cooperation includes (i) addressing policy and institutional barriers, (ii) removing infrastructure and other barriers to cross-border trade and investment, (iii) encouraging private investment, and (iv) strengthening regional surveillance and regional financial infrastructure. Work is underway to increase cooperation between Mongolia and Inner Mongolia to reduce the incidence of dust storms. A major milestone will be the holding of the Second GMS Summit in Kunming in 2005. ADB will also support other regional initiatives such as the Asia-Pacific Economic Cooperation (APEC) Forum; the Association of Southeast Asian Nations’ (ASEAN) meetings with the PRC, Japan, and South Korea (ASEAN+3); the Manila Framework Group; and the Boao Forum.

5. Private-Sector Development

17. ADB’s private-sector assistance in the PRC focuses on infrastructure, the financial sector, and the environment. ADB public-sector lending and TAs are designed to help create an enabling environment for private-sector development. Examples of expected policy results include the government taking actions consistent with ADB recommendations on policies needed to promote private-sector development,²⁴ adoption of regulations governing the publicprivate partnerships in the water sector and improved polices related to SME development and financing. For lending, priority is given to pioneering projects that are models for structuring and promoting private-sector investment as well as public-private partnerships. While much of the private investment in infrastructure is likely in the coastal region. Efforts will be made to develop and assist suitable projects in the central and western parts of the country.

18. In the financial sector, ADB helps strengthen banks and other financial institutions to enable them to better mobilize resources for the private sector and manage risk. Equity infusions into selected financial institutes will be considered, preferably alongside strategic investors, to promote financial sector reform and good corporate governance. Investments will also be considered for institutions such as credit guarantee companies to support the financing of SMEs, and rating agencies to support the development of debt markets. ADB will continue to use funds as investment vehicles for providing equity capital to SMEs and for supporting other priority sectors that will not be cost effective for ADB to invest in directly. ADB will look for opportunities to help resolve the nonperforming loan (NPL) problem and will support model transactions, including the financing of investors in NPLs and distressed assets. Mortgage securitization (to increase the availability of funding for housing), municipal finance (to help local governments gain access to debt markets), and trade finance facilitation (to promote regional and international trade) are potential new areas for exploration. ADB will explore issuing yuandenominated bonds for lending to local borrowers. Local currency financing will help borrowers avoid exchange risks associated with currency mismatches, an important lesson from the Asian financial crisis.

19. In the infrastructure and energy sector, priority is given to pioneering projects and models for innovative contractual and financial structuring for promoting private-sector participation. In addition to “greenfield” (startup) projects, acquisition, rehabilitation, or expansion projects with private-sector participation are supported to enhance the efficient usage of existing infrastructure and energy assets. ADB promotes commercialization and privatization initiatives in infrastructure and energy sectors by assisting local entities currently owned or majority owned by the public sector. ADB structures comprehensive funding packages to meet the project funding requirements using various financial modalities, such as equity investment, long-term loan, political risk guarantee, and partial credit guarantees for local commercial loans.

20. ADB’s financial assistance can also be made available for the projects contributing to environment improvement. ADB would support clean-development-mechanism (CDM)-related projects, sponsored mainly by private-sector developers, under the expected-to-be-ratified Kyoto Protocol as well as existing carbon credit markets. Projects will be explored that promote environmentally friendly technology, improve fuel consumption, and relate to CDM initiatives.

C. Highlights in Coordination of External Funding and Partnership Arrangements

21. The government and many other development partners’ strategic concerns are poverty, governance, the environment, and western region development. These are core areas in the CSP. This convergence of interest represents an opportunity to deepen collaboration with other development partners. ADB coordinates with major external funding agencies through the PRC Resident Mission (PRCM).²⁵ Initiatives to promote coordination include an informal development partners group²⁶ that meets monthly, as well as roundtable meetings on specific subjects such as the environment, governance, law, and energy. PRCM participates regularly in meetings and seminars to disseminate information on ADB operations. Donors exchange information on projects funded by development agencies and their respective country strategies.

22. The United Kingdom’s Department for International Development (DFID) and ADB have forged a partnership to strengthen the poverty orientation of ADB’s operations in the PRC through a specific component of the Poverty Reduction Cooperation Fund and are working with the government to formulate a Provincial Poverty Reduction Partnership Agreement. The 2004- 2005 program includes fourteen poverty related TAs totaling $8.3 million to be financed from this fund. In partnership with GEF, ADB is the leader in the donor community for combating land degradation²⁷. The World Bank, the International Fund for Agricultural Development (IFAD), and Kreditanstalt für Wiederaufbau (KfW) have expressed interest in using the PRC-GEF Partnership OP12 funds for land degradation projects. ADB introduced the Agence Française de Développement (AFD) to the PRC. After cofinancing the ADB-funded Western Yunnan Road Project, AFD is broadening its activities including cofinancing the proposed Dali-Lijiang Railway Project. The Japan Bank for International Cooperation (JBIC) and other bilateral agencies wish to cofinance clean energy projects. KfW is interested in cofinancing ADB sewage treatment and transport projects. In 2004, the Spanish Government funded two TAs. ²⁸ Ongoing Asian Development Bank Institute (ADBI) work includes a study on FDI, the effectiveness of povertytargeting measures, and corporate governance in the banking sector. Collaboration with other partners is continuously being explored (Appendix 1, Table A1.5).