I live in China and I can tell you, that wasn't the reason at all. The majority of ethnic Chinese live well away from the minority areas (which are largely in the borderlands) and have no idea about any of those issues, and cultural differences/unfamiliar plot conventions/losses-in-translation would have made most of the film's subtext inaccessible to the Chinese (see some of the non-Chinese interpretations of old-school Zhang Yimou movies for the same thing happening the other way). For the most part, locals saw it as an entertaining cartoon, and liked it for its visuals more than anything.

Avatar was in theatres for ages, and if the government wasn't comfortable with it, it would have never made it to the theatres in the first place (most big foreign films don't). They pulled Avatar because they really really wanted to push a movie about Confucius. Lately, the propaganda has become increasingly nationalistic, and they constantly push a heavily-reinterpreted version of Confucian thought as a touchstone in Chinese national achievement and culture. Even though it was privately-made, the government was hoping for a huge blockbuster, and the marketing was relentless.