In view of the opaque nature of the Chinese economic statistics, the view of many private sector economists - based on these rosy official statistics - may turn out to be too optimistic. China's low ratio of foreign debt to GDP, at only around 14 per cent, should also offer protection from the worst risks of currency contagion.Despite all this, it must be admitted that the anecdotal evidence from industrial companies doing business in China is much bleaker than the official data are suggesting, and international government officials seem increasingly worried about the situation. However, it should not be forgotten that the problem in China's publicly owned banks is mainly one of bad loans to state-owned enterprises. Since the government will pick up the responsibility for these losses, the weakness in the Chinese financial system is akin to that in the former Soviet Union - ie it is a problem of allocation of losses within the public sector. This could still prove serious, but it should not undermine the economy in the same way as has occurred elsewhere in Asia. Essentially, the economy has been slowing for about four years under a tight domestic policy squeeze, and inflation has dropped to zero.

There is consequently scope for policy to be eased.Interest rates have already been cut by 3-3.5 per cent in the past few weeks, and the public finances appear to be in reasonable shape following three years of fiscal tightening. An increase in public investment can now be afforded, and looks likely over the next 12 months. Assuming demand policy is eased in this way, overall GDP growth can probably be maintained at about 9 per cent next year, despite a worsening in net trade.What about the health of the financial system? A great deal of gloom has been expressed on this subject by western investors. In addition, the position of the Chinese economic cycle seems different from the rest of Asia. It is true that the RMB has been dragged up alongside the rising dollar against the smaller Asian currencies, and that it has now lost all of the competitive edge it gained following the 1994 devaluation. (On Goldman Sachs' calculations, the real effective exchange rate is back to where is was in 1993 - see graph.)However, exports are still growing at annual rates of over 20 per cent, and foreign exchange reserves have continued to increase, suggesting that the problem remains one of excess capital inflows, rather than the reverse.

There has been a cumulative trade surplus of $35bn so far this year, with a further $24bn coming from inflows of foreign direct investment.On the surface, at least, this situation looks totally different from that which afflicted the rest of Asia prior to this year's currency crisis. Fortunately, this is not the most likely out-turn for several reasons.First, unlike the situation in the rest of Asia prior to the currency crisis, equilibrium exchange rate models suggest that the RMB may actually be slightly undervalued. But serious contagion effects may come in the area of trade competition with Japan (which takes 17 per cent of Chinese exports).In addition, there would be severe contagion effects on other emerging economies - notably Argentina, which has a currency board system that would suffer a huge speculative attack if the similar system in Hong Kong failed. This would in turn no doubt kill off the brave attempts of the Cardoso government to defend the Brazilian real.

There would therefore be serious negative effects on the US economy, both via these Latin American impacts, and via additional exports from China into the US, which is its largest customer outside Asia.In view of the importance of all these contagion effects, it is scarcely surprising that the US authorities are so worried about the possibility of a Chinese recession, along with a consequent devaluation of the currency. For once, the knock-on effects to the rest of Asia may not be the most critical factors, since direct trade between China and other developing Asian economies is fairly minimal. Hong Kong is China's largest trading partner, taking around one quarter of its exports this year. If China slumped into a recession, leading to a devaluation of the renminbi (RMB), these links with Hong Kong would almost certainly be enough to put intolerable pressure on the peg.Third, if the HK peg were to break, there would be severe contagion effects in other emerging markets.