Have monetary policies changed?

17:08, January 18, 2010      

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After the news of increasing the deposit reserve ratio by 0.5 percentage points was announced on the website of the Central Bank at 7pm January 12, the Shanghai and Shenzhen stock markets fell dramatically, and the global stock markets also dropped. The crude oil price fell by 1.5 percent. Analysts said what caused the market to go into shock and even panic was not the result that the increase of 0.5 percentage points will freeze part of fluidity, but the signal concerning policies that it sends out. Quite a number of investors judged that the moderately loose monetary policies have started to change.

The judgment seems a little plausible. With China's economy recovering and becoming better, monetary circulation becomes increasingly faster and the astronomically large loans issued in 2009 will produce considerable fluidity. Since the second quarter of 2009, the foreign exchange net inflow has continued to increase, and it has already reached the level before the international financial crisis in the fourth quarter of 2009. With an expected recovery of China's export growth in 2010, increase in foreign direct investments and active "hot money" outside China, foreign exchange will keep on flowing into China which helps to make the current market fluidity very ample. In particular, banks issued a considerable amount of loans in early 2010. According to reports, 600 billion yuan of loans were issued during only the first week of January 2010.

There is excessive fluidity, but at the same time, the consumer price index (CPI) and producer price index (PPI) show signs of growth compared to those in a certain previous period. Inflation expectations have increased. When the pressure of the open market operation is relatively large, increasing the deposit reserve ratio helps to further enhance fluidity management and prevent excessively fast growth of loans from boosting inflation expectations. The increase is also favorable to banks' balanced credit issuance and can also help to prevent sharp fluctuations of credit issuance. The deposit reserve ration is only a fluidity management tool that is more powerful than the open market operation. Increasing the deposit reserve ratio aims to maintain the market fluidity at a reasonable and moderate level, and does not mean that the monetary polices have started to change.

Furthermore, not only does a moderately relaxed monetary policy mean the continuity and stability of the policy, but it also has enhanced the target orientation and flexibility of the policy. In particular, it is necessary to balance the relationship among sustaining a stable and rapid economic development, adjusting the economic structure and managing inflationary expectations. Using the tool of the deposit reserve ratio to strengthen the liquidity management and withdraw part of excessive market liquidity will be able to not only ensure a relatively relaxed monetary and financial environment for economic growth, but also effectively manage inflationary expectations. Instead of giving up a moderately relaxed monetary policy, this simply is the intrinsic demand of the policy.

If we expand our horizons and view the financial sector in a larger sense, a deposit reserve ratio increase or net withdrawal of funds from the market during a certain period does not imply a change in the direction of monetary policies because it is the economic situation that usually determines the tone of policies. We have entered the most complicated year of 2010 after undergoing the "toughest" year of 2009. Although China's economy has achieved a V-shaped pickup, it is still facing internal and external difficulties.

In terms of domestic environment, the investment demand is accelerating, but private investment intention is not strong; consumption demand has maintained steady growth, but the effect of the policies of stimulating consumption is likely to decline, and the inner power driving economic growth remains weak. In terms of the external environment, the foundation of the global economic recovery has not been stable and the recovery that was achieved with the speed of "escalator" can fall back anytime with the speed of "elevator." Therefore, it is a must to continue implementing the moderately relaxed monetary policies to reinforce the foundation of the economic recovery. If the policies "exit" too early, the results achieved will be lost again.

Despite the deposit reserve ratio increase, the monetary policies remains moderately relaxed. We did not see any sign of reversing the direction of monetary policies, but only the target orientation, flexibility and foresight of the policies.

By People's Daily Online
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