The International Monetary Fund said China's slowing economyfaces significant downside risks and relies too much on investment,urging leaders to boost consumption and channel citizens' savingsaway from housing.

The IMF repeated an assessment that the yuan is “moderately”undervalued, which China disputed, the Washington-based lender saidin an annual review. The fund omitted an estimated range for thecurrency's undervaluation that was included in an earlier draft,according to two officials at the fund who had seen the previouslanguage and spoke on condition of anonymity.

The call to support consumer spending echoes priorities set byPremier Wen Jiabao's government, which is seeking to stem asix-quarter slowdown in economic growth. Leaders have cut interestrates and stepped up investment as the ruling Communist Partyprepares for a once-a-decade leadership handover starting laterthis year.

“The authorities have taken the foot off the brakes, but theyhave not yet stepped on the accelerator in a major way,” MarkusRodlauer, head of the IMF's China team, said on a conference callwith reporters. The IMF statement followed a July 20 directors'meeting to discuss the annual staff assessment of China'spolicies.

While the economy “seems to be undergoing a soft landing,”achieving it is a key challenge, the IMF said. “China is wellplaced to respond forcefully, if needed, to a deterioration of theexternal environment, in particular through fiscal policy.”

With a slowdown in export growth, China has allowed the yuan toweaken this year. The currency has dropped about 1.4 percentagainst the dollar in 2012 after a 4.7 percent gain in 2011. Theyuan fell less than 0.1 percent against the dollar to 6.3887 as of11:23 a.m. in Shanghai.

The yuan “is assessed to be moderately undervalued against abroad basket of currencies,” the IMF staff wrote, reiterating anassessment last month by David Lipton, the IMF's first deputymanaging director. That was a change from the previous stance thatthe currency was “substantially” undervalued.

China disputed the new assessment and said the yuan was “nowclose to equilibrium or, at most, slightly undervalued,” accordingto the report.

Estimates Omitted

The IMF refrained in this year's report from giving an estimateof how much the yuan may be undervalued, compared with last year'sassessment, which gave a range of 3 percent to 23 percent.Rodlauer, asked why figures were left out this year, said on thecall that “numbers tend to get a life of their own,” though someestimates will appear in a separate exchange-rate report to beissued “shortly.”

Bill Murray, an IMF spokesman, declined to comment on theomission of the yuan's estimated undervaluation that was in anearlier draft.

China in April widened the yuan's daily trading band for thefirst time since 2007, allowing the currency to move 1 percentaround a rate set daily by the central bank, up from 0.5percent.

China's economy is bottoming out now and likely to have a“slight improvement” this quarter, Rodlauer said in a BloombergTelevision interview. Separately today, China's Ministry ofIndustry and Information Technology said growth may stabilize andrebound in the second half as policies gradually take effect.

Chinese officials agreed that in case of a worsening of Europe'sdebt crisis, they would try for a “balanced approach between fiscaland monetary measures,” the IMF staff report said.

IMF directors “noted that the pace of activity has slowed anddownside risks are significant,” the fund said. Options to supportthe economy while avoiding the side effects of a credit-fueledstimulus include subsidies for consumption, incentives to reducepollution and greater spending on a social safety net, the IMFstaff wrote.

China's economy is cooling as Europe's debt crisis limitsexports and Wen's past tightening to curb inflation and prolongedefforts to subdue property prices restrain domestic demand. Grossdomestic product expanded 7.6 percent in the second quarter from ayear earlier, the least in three years. The expansion may cool to7.4 percent this quarter, Song Guoqing, a central bank adviser,said July 21.

Labor Situation

Wen warned this month of a “severe” labor outlook and saideconomic difficulties may persist for a while as downward pressureon the economy remains “relatively large.”

The IMF repeated its forecast from last week that China's grossdomestic product will expand 8 percent in 2012, compared with 8.2percent seen in April, and accelerate to 8.5 percent growth in2013, compared with 8.8 percent predicted three months ago.Inflation will range from 3 percent to 3.5 percent for the year andslow to 2.5 percent to 3 percent in 2013, “barring further shocksto agricultural supply,” the IMF said.

Chinese authorities are “confident” they can reach growth of atleast 7.5 percent this year, according to the IMF staff report.

The IMF forecast a current-account surplus of 2.3 percent of GDPthis year, rising over the next five years to 4.3 percent in 2017.That longer-term prediction is “well below the 7 to 8 percent ofGDP previously expected,” the IMF report said.

China is accelerating capital spending in response to theslowdown, and the IMF said its directors expressed concern aboutthe sustainability of “such a high level of investment in thecontext of weak external demand and excess capacity.” The IMF seesgross domestic investment little changed this year at 48.5 percentof GDP.

IMF officials “underscored the urgency of reforms to rebalancethe economy toward more consumption-led growth,” the lender said.Wen said this month that “growth-stabilizing policies includeboosting consumption and diversifying exports, but currently, whatis important is to promote a reasonable growth in investment.”

Gome Electrical Appliances Holding Ltd., China's second-biggestelectronics retailer, warned yesterday it may post a first-halfloss as revenue declined and its e-commerce unit was unprofitable.Gome and Suning Appliance Co., a larger rival, last year benefitedfrom government subsidies on home-appliance purchases.

The IMF said China still has a “large agenda” to pursue onimproving its financial system including strengthening theframework for crisis management, adopting deposit insurance andregulating risk from loan growth and off-balance-sheettransactions.

IMF officials welcomed China's efforts to cool the propertymarket while saying that “eliminating the potential for propertybubbles requires reforms to channel household savings away fromhousing and toward other financial assets.”

Wen has vowed to “unswervingly” maintain property controls evenas he tolerates some piecemeal measures to support the market.

Bloomberg News

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