Banking Reforms and Monetary Policy in the People's Republic of China: Is the Chinese Central Banking System Ready for Joining the WTO? Review

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Banking Reforms and Monetary Policy in the People's Republic of China: Is the Chinese Central Banking System Ready for Joining the WTO ReviewJournal of Asian Studies Vol62 No4: 1218-9
by Professor MarkTFung, Johns Hopkins University
Based on his economics graduate work at the University of Chicago and his dissertation at New York University, Guo s book is a rare brevity and bounty that provides the vital linkage between the sequencing of monetary policy to various stages of banking reform in China. Overall, Guo s work is a breed apart in the sea of literature on monetary policy and banking reform in China.
Of the most pivotal decisions for China s top leaders, how to deal effectively with domestic banking reform while facing an onslaught of foreign banking interests in China by 2006(the year in which key features of the WTO accession protocol are effectuated) remains at the top of the policy agenda. At the first session of the tenth National People s Congress in March 2003, the establishment of a new regulatory body, the China Banking Regulatory Commission, separated the supervision and oversight powers of the People s Bank of China(PBOC), China s central bank, from its primary responsibility of utilizing monetary tools to achieve economic policy targets. This new watchdog agency will be charged with overseeing 110 commercial banks, which was once the domain of the PBOC. And with this responsibility comes an even greater pressure to alleviate the hundreds of billions of dollars in nonperforming loans at the four largest state banks. This bifurcation of bureaucratic interests should place the important task of banking reform in China on firmer ground.
In his book, Yong Guo is a Champion of and optimist about China s banking reforms. His work covers the period from 1949 to 2000 and captures economic data from 1978 to 2000. Guo s main argument is that, since Deng Xiaoping s reforms, China s implementation of monetary policy had been, in the main, on the correct course, given China s developmental track. He relies on Ronald I. McKinnon s 1993 celebrated theory of ?optimum order?-which was expounded upon in The Order of Economics Liberalization: Financial Control in the Transition to a Market Economy (Baltimore: Johns Hopkins University Press)- to make his case. McKinnon s theory is consistent in regard to China s economic development in that the optimum order of economic liberalization is one in which the lifting of capital controls should be the very last order of things , only after a country?s financial house is completely squared away. This may help explain why China s economy was virtually unscathed from the 1997-98 Asian financial crisis.
It was only a decade ago that inflation ravaged China at a rate of 13.19 percent in 1993, followed by 21.69 percent in 1994. It was the necessary tripwire for the PBOC finally to get serious about the formulation and implementation of monetary policy and then undertake its stated role as the central banker. And unbeknownst to Deng at the time, Guo argues, by his Southern Tour in 1992 actually perpetuated the country s inflation, Guo argues, by encouraging individuals and municipalities to invest and develop at a frenetic pace. As a consequence, the demand for money skyrocketed, and this led to spiraling inflation. The inherent problem was an utter lack of banking supervision, which allowed inter-bank lending practices to unravel in an unregulated fashion. As Guo notes, it was not until 1995 that China even promulgated a coherent set of national guidelines for inter-bank lending. With a penchant for profits and a blind eye toward the true defalt risk in loans, financial institutions in China simply hiked interest rates on loans and deposits in order to remain attractive and competitive with other banks.
A similar situation existed in the U.S. in the 1920s, Guo notes, which prompted the creation of Regulation Q, which provided an interest-rate ceiling under the 1933 Glass-Steagall Act (annual efforts to repeal Regulation Q have passed in the House but have stalled in the U.S. Senate). In the end, the PBOC s effective use of microeconomic tools, such as interest-rate targets, allowed for the soft landing in the China s economy, according to Guo. China s central bank had come a long way since the pre-reform days of 1949-78, when it functioned essentially as a glamorized cashier for the state, receiving deposits and assets from the state while at the same time paying out state-authorized liabilities.
We also learn about how the U.S. Federal Reserve system made its imprint on banking reform in China and the urgency surrounding the creation of a truly independent central banking system. But, the nature of Chinese politics still dictated a need for banks to serve purely policy interests outside of any financial calculus. China ?s banking reforms allowed the PBOC to become ostensibly independent of political interference.
The PBOC was finally emancipated from the burdens of making nonmonetary policy. China s central bank returned to its core competency of crafting monetary policy. The success of interest-rate targeting from 1993 to 1997 by the PBOC was more sheer accident than brilliance because , as Guo argues, the monetary tools at China s disposal were extremely limited, given its nascent government bond market. Hence, it seemed as though the default policy tool for China was to utilize interest rate targets.Banking Reforms and Monetary Policy in the People's Republic of China: Is the Chinese Central Banking System Ready for Joining the WTO Overview

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