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Brookings: The Chinese Financial System: An Introduction and Overview

Authors: Douglas Elliott, Fellow, Economic Studies, Brookings Institution, and Kai Yan
July 1, 2013

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"Many analysts believe that the financial system represents a major vulnerability for China's economic development, whereas others, equally respected, think that the financial system is adapting effectively to China's more developed status and will continue to provide the necessary fuel for the rest of the economy."

The financial system plays a critical role in fueling the expansion of China, which has grown to be the second largest economy in the world and is likely to eventually surpass the US. Yet there is much less understanding of China's financial system than there is of America's or Europe's. Many analysts believe that the financial system represents a major vulnerability for China's economic development, whereas others, equally respected, think that the financial system is adapting effectively to China's more developed status and will continue to provide the necessary fuel for the rest of the economy.

This paper provides an overview of China's financial system and details what we know and what we do not know about its workings. We begin with an overview and then structure the remainder of the paper around a series of questions and answers.

Financial systems can be organized in multiple ways that differ in terms of the role of the government, the relative importance of banks and other financial intermediaries compared to stock and bond markets, the degree of financial leverage in the economy, and other differences. The optimal financial system for a given nation depends on its stage of development, its particular social values, its political system, and various idiosyncratic factors. This paper will frequently compare China to the US, not because China should necessarily copy the US approaches, but principally to help our American readers put China in context. Some of the differences between China and the US will disappear over time as China's economy becomes bigger and more sophisticated, and as the financial system adapts to a level of development more similar to the US. Other differences will remain because of policy or societal choices or inherent differences between the two nations.

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