IMF warns of 'disorderly correction' if China reform slows

The IMF warned that China, the world's second-largest economy, could face a "disorderly correction" followed by slower growth if its reform program slows.

Presenting its annual assessment of China, the International Monetary Fund on Friday expressed satisfaction with its transition to a more market-oriented economy.

But it also warned Beijing to stay the course, despite recent warning signs.

"The faster the progress, the sooner the benefits will materialize," said Markus Rodlauer, head of the IMF mission to China and one of the authors of the review.

The report forecasts 6.8 percent growth for this year, relatively low by recent Chinese standards but this was expected as Beijing transitions to a more sustainable model.

It also said the yuan is no longer undervalued, despite Beijing ordering this week's steep fall against the dollar, noting it was still well up over the year.  

The IMF was also sanguine about the recent turmoil on Chinese stock markets, which it said does not threaten the wider economy.

But it urged Beijing to quickly unwind its massive state intervention to support falling share prices, and warned that the true risk would come from slowing reform.

"Insufficient progress in containing vulnerabilities and advancing structural reforms continues to pose the biggest risk to the outlook," Rodlauer warned.

"If there were going ahead insufficient progress that would be the biggest risk that, if realize, could result over the medium term in a disorderly correction and a protracted period of slower growth."

Markets and some world governments have been alarmed by this week's decision by China to devalue the yuan, but the IMF said it should be seen as a step toward a more market-oriented exchange rate approach.

"The exact impact will depend on how the new mechanism is implemented going forward," Rodlauer told reporters.

"China can and should aim to achieve a full floating exchange rate system within two to three years."

Asked whether the yuan's fall would help China's in its quest to see the yuan become one of the reserve currencies in the IMF's SDR (special drawing rights) basket, Rodlauer was cautious.

"The announced change has no direct impact on the criteria used in determining the composition of the basket," he said, calling for a "more market-oriented" rate.

China sees gaining SDR status for the yuan as a recognition of its role in the world financial system as a reserve currency on a par with the dollar or the euro.