By John Ruwitch and Hui Li
BEIJING (Reuters) - China's new leaders are planning a system of national residence permits to replace the household registration or 'hukou' regime, a government source said, a vital reform that will boost its urbanization campaign and drive consumption-led growth.
The hukou system, which dates to 1958, has split China's 1.3 billion people along urban-rural lines, preventing many of the roughly 800 million Chinese who are registered as rural residents from settling in cities and enjoying basic urban welfare and services.
Critics have called for changes for years and a government researcher told Reuters a "unified national residence permit system" would be adopted as policy as part of a 10-year urbanization plan to be published after the current annual session of parliament.
Benefits and entitlement under the new system would be "basically equal", he said, although the changes would be eased in slowly. He did not say how long it would take.
"The trend is to dilute the urban-rural household registration divide", said the researcher, who was briefed on the details but declined to be identified because the plan has not yet been made public.
Previous administrations have experimented with reform on the fringes of hukou for years but have not delivered on calls to overhaul the system, which affords different welfare and civic services to urban and rural citizens.
In a speech to parliament on Tuesday that laid out the blueprint of the new leaders, outgoing Premier Wen Jiabao said hukou reforms should be accelerated to drive an urbanization effort that he said would underpin economic development.
Zhang Ping, head of the National Development and Reform Commission, China's main economic planning agency, said on Wednesday that guidelines for the urbanization plan would be launched in the first half of 2013.
"Urbanization is the biggest potential force driving China's domestic demand in the years ahead," Zhang told reporters.
China plans to spend 40 trillion yuan ($6.4 trillion) to bring 400 million people to cities over the next decade as the new leadership of president-in-waiting Xi Jinping and premier-designate Li Keqiang seeks to turn China into a wealthy world power with economic growth generated by affluent consumers.
Wen said consumption was the key to unlocking the full potential of domestic demand in the economy and would reduce excess, inefficiency and inequality. It would also help deliver growth of 7.5 percent in 2013 - a level China barely beat in 2012 when growth eased to 7.8 percent, its slowest pace in 13 years.
Hukou reform can also unlock the funds of about 200 million rural residents who work in cities as migrants and spend much of their incomes on benefits like medical services and education for their children, which are given free to urban dwellers.
If policymakers successfully harness this demographic shift, China will enjoy continued economic strength, analysts say. If not, it could lead to social and political instability.
"If they don't get it right, instead of growing a middle class, they are going to grow a huge underclass in the city, and that's very scary," said Kam Wing Chan, a population expert at the University of Washington.
"Without granting urban hukou to rural urban migrants it is very hard to turn them into the middle class. They will always be second class," he said.
One of the main reasons the reform has been delayed is money. Local city governments have dragged their feet on plans to give migrants equal welfare, saying they lack the fiscal means to foot the bill.
"If the central government is serious they've got to talk about how to finance this," said Tom Miller, an analyst with GK Dragonomics and author of the recently published book "China's Urban Billion".
The state researcher who declined to be identified said the urbanization plan would broadly put the burden of funding on central and local governments, enterprises that employ migrants and individuals. He did not discuss specifics.
"In doing so we can ensure that some people can transition from being rural to urban citizens and ensure basic public services for this segment of people," he said.
Another key reform needed in the urbanization plan would be new rural land management rules, although the researcher said there would be few details on this.
Peasants now do not have the freedom to sell their land at market prices, which has exacerbated China's wide rich-poor gap and made many reluctant to fully abandon their rural plots.
Officials like Chen Xiwen, head of the Central Committee's rural working group, have cautioned against urbanization, saying it could lead to a shrinking of farms as land is converted to other uses.
Migrant workers have for years lamented inequalities in the hukou system, like the lack of local medical coverage or equal access to higher education.
"In the countryside we generally want to change our rural hukou for city hukous," said Wang Baiqiang, an 18-year-old who left a village in Henan province last month for a job in an Adidas factory in the coastal province of Jiangsu, 14 hours away by bus.
"It's just better if you have a city hukou (if you live in a city)," he said.
(Editing by Raju Gopalakrishnan)