PBOC enhances monetary policy
By Chen Yao (China Business Weekly)
Updated: 2004-08-12 10:31

While gradualism is the essence of the People's Bank of China (PBOC)'s long-term strategy to revamp the country's monetary policy framework, there is a certain niftiness about the central bank's latest moves to fine-tune its open-market operations.

PBOC posted two notices, on July 26 and last week, on its official interbank market website, www.chinamoney.com.cn, to announce important changes in its use of monetary instruments.

PBOC, effective last Thursday, began a regular issue of Treasury bills, on Thursdays.

This will be in addition to the central bank's weekly issue of central bank bills, on Tuesdays, bond repurchase operations, on Thursdays, and short-term bill repurchase operations, on Tuesdays.

PBOC's latest move is being hailed by industry observers, who see the change as a significant step towards a more sophisticated monetary management.

Analysts, however, say more must be done to restructure the bank's monetary policy.

Diversification of PBOC's tools to manipulate money supply, through the interbank market, will also enable the central bank to perform monetary policy goals with more manoeuverability, and to tweak the economy in a progressive manner, said Zhu Jianfang, a macroeconomy analyst with Huaxia Securities Co.

Among PBOC's instruments for open-market operations, shorter-term bill repurchases, longer-term bond repurchases and the issue of central bank bills have emerged as the central bank's favourite combination of monetary policy measures.

While long-term instruments include Treasury bills, with maturity ranging from six months to a year, medium-term instruments incorporate three-month bills and short-term instruments include 28-day bills, 14-day bills and seven-day bills.

Each category serves a specific purpose.

PBOC is able to pursue its long-term goals by issuing Treasury bills on Tuesdays and Thursdays, while its repurchase operations, on Tuesdays and Thursdays, serve its short- and medium-term goals.

The central bank last Tuesday issued 8 billion yuan (US$966 million) worth of one-year Treasury bills. PBOC allowed commercial banks, rural credit co-operatives and other interbank market participants to take part.

Last week's issue, however, increased a mere 3 billion yuan (US$362 million) from the previous week.

"Swaying away from the danger of a hard-landing for the economy, the central bank is focusing on more flexible measures to adjust the country's money supply," Zhu said.

Inflation worries, resulting from concerns about ballooning credit in the system and rising consumer prices, have, since last September, prompted PBOC to raise the deposit reserve requirement three times.

Recently published statistics indicate the growth rates of both bank loans and money supply slowed in the year's first half. However, the year-on-year increase of the consumer price index (CPI), the commonly used gauge for inflation, was still hovering around 5 per cent in June.

Wu Xiaoling, PBOC's vice-governor, recently said, during the Forum of Financial Opening and Commercial Bank Reform of China, the central bank will still be able to bring down the annual growth of money supply, both the broad money M2 and the narrow money M1, to 17 per cent this year.

She also said PBOC will be able to force bank lending to grow a maximum of 2.6 trillion yuan (US$321.45 billion).

"In line with the overall money and credit plan, PBOC has maintained the stable growth of base money through open-market operations," Wu said.

"In the future, the central bank will apply various monetary policy instruments, in a flexible manner, to reach monetary policy targets."

PBOC last year completed 63 issues of central bank bills, worth a combined 722.68 billion yuan (US$87.33 billion). The outstanding amount was 337.68 billion yuan (US$40.81 billion).

Although the central bank's open-market operations last year were worth 269.4 billion yuan (US$32.56 billion), the base money injection, as a result of foreign exchange purchases, added up to 1.15 trillion yuan (US$138.97 billion).

That resulted in a net base money injection of 876.5 billion yuan (US$105.8 billion), and significantly increased the excess liquidity in the banking system.

PBOC last April intensified efforts to withdraw currency from circulation. In May, the central bank began selling bond repurchase agreements, through public tender, each Thursday.

Open-market operations have made it possible for PBOC to provide adequate liquidity when, on certain occasions, the country's capital market has required funding, economists said.

The central bank reduced the scale of three-month bills twice last year. It also injected liquidity into commercial banks, through seven-day, reverse-repurchase transactions, after Huaxia Bank's initial public offering resulted in a relatively large liquidity shortage.

Monetary policy has long been the domain of China's central bank.

PBOC generally uses three main instruments to regulate the supply of money: Open-market operations, discount rate and reserve requirements for commercial banks.

While adjustments in reserve requirements are considered drastic changes in the discount rate which normally signal similar changes in interest rates, open-market operations are widely used by central banks around the world.

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