With China's hot economy and even hotter stock market, it's a bit of a chill to remember that we're approaching the 10th anniversary of the Asian financial crisis. The 1997 chain reaction shook the very foundations of the regional economy.

A decade later, Asian countries are once again prosperous, boasting strong economic development with large-scale inflows of international capital. This is especially true for China.

However, the United Nations is warning that Asia is again vulnerable to financial meltdown. The dire news comes from an annual survey released by the UN's Economic and Social Commission for Asia and the Pacific in mid-April.

This much is known: China's strong and stable economic performance drives regional development and lifts millions out of poverty, and attracted by its economic performance, the world has shifted its attention to China.

China's markets are now targeted by enormous amounts of international hot money with expectations that its currency will appreciate further in the near future.

Amid the turbulence, international speculators helped push the Chinese benchmark Shanghai Composite Index to record highs as high as 4,000 points on May 9 three times what it was two years ago.

All this creates a conundrum for China: how to maintain rapid economic growth and eradicate poverty, while at the same time minimize the threat of a possible financial crisis brought about by rapid growth.

The financial unrest a decade ago was triggered by Thailand's announcement that it would drop its fixed exchange rate and let the currency float starting July 2, 1997. The decision led to a sharp depreciation in the Thai baht. A depreciation epidemic soon plagued all of East Asia, with Thailand, Indonesia, South Korea hit hardest.

Amid expectations at the time that China would be forced to devalue its currency to guarantee export competitiveness, China held firm, pegging the yuan to the US dollar. The yuan's non-convertibility protected its value from speculators.

The current situation is very different from that of 1997. This time, it is China that has adopted a managed floating exchange rate, and the yuan has already appreciated 5.4 percent since 2005.

Judging by lessons drawn from 10 years ago, a financial crisis tends to occur after years of high GDP growth. The 1997 Asian crisis followed years of East Asian countries' rapid development.

The economies of Thailand, Malaysia, Indonesia, the Philippines, Singapore and South Korea experienced GDP growth rates of 8-to-12 percent in the late 1980s and early 1990s.

Similarly, China's GDP keeps growing fast. The annual growth rate has exceeded 10 percent since 2004. The average growth rate from 1979 to 2004 was 9.6 percent. First quarter GDP growth this year climbed 11.1 percent.

Coupled with this year's dramatic stock market plunge on February 27, when the Shanghai Composite Index dropped nearly 9 percent, China's financial market has left international observers wondering if the next financial crisis might start in China.

In the past decade, China has grown into the world's fourth largest economy and the third largest trading nation.

China weathered the storm of the 1997 Asian financial crisis, but that was then, and this is now. Suppositions are rampant on how damaging it would be for the Chinese economy if the $70 billion in hot money currently flowing freely was suddenly squeezed out of the country's stock and property markets.

Yet, with ever-maturing monitoring and management measures, the country is capable of heading off a possible financial crisis. In order to cope with financial risks, China should be prepared in three areas.

First, China should work to optimize its financial system before opening its financial markets further. Allowing foreign banks to incorporate locally and allowing them to open yuan services to Chinese citizens indicates great progress.

To some extent, introducing stronger competition will help boost domestic banks' competitiveness. But it is crucial that foreign capital does not dominate the Chinese financial market. Thailand's experience serves as a stark warning.

Foreign capital accounted for 34 percent of the Thai market before the financial crisis. The sudden outflow of speculative money was the element touching off the crisis.

Second, financial market watchdogs should be further educated to better oversee the financial market. At present, many supervisory staff lack experience handling large inflows and outflows of capital. Confronted with long-time international capital market players, Chinese watchdogs need to catch up as soon as possible.

Third, in the process of reforming the financial system, Chinese banks need to become more competitive. This includes the major four State-owned banks and joint-stock banks, as well as city commercial banks.

A high GDP growth rate is inevitable at this stage. China is like a giant elephant riding a bicycle it has to maintain a fast speed, otherwise it will crash. Though the Chinese currency is now forced to float, it still comes within the reach of the supervisory departments.

Driven by the Beijing 2008 Olympics and the World Expo 2010 Shanghai, the Chinese economy can be expected to continue to grow and attract more international capital.

It is essential for the government to craft policies aimed at rebalancing the economy to achieve a shift in production from industry to services. China needs to rely more on domestic demand and growth instead of external factors.

The author is a lecturer at the Central University of Finance and Economics in Beijing

(China Daily 05/15/2007 page11)