Country unaffected by US rate
By Zhang Dingmin (China Daily)
Updated: 2004-09-25 08:49

The recent interest rate increases in the United States have not exerted any substantial influence on capital flow into China as many analysts expected, a senior researcher with the Chinese central bank said on Friday.

But if the Federal Reserve moves further to raise rates above levels in China, the expected effect of higher US rates on slowing China's capital inflows will be more obvious, said Tang Xu, president of the Graduate School of the People's Bank of China (PBOC).

"So far, we cannot see any substantial effect (on capital inflows into China)," Tang said.

Many economists are recommending an interest rate rise in China to slow down its rapid monetary and fixed investment growth and contain hefty price increases, but many fear higher domestic interest rates will accelerate already fast capital inflows.

Analysts say speculative funds into China have been growing in recent months, aiming to both profit from higher interest rates and gambling on an appreciation of the local currency, or the renminbi, which has forced the central bank to increase local money supply even as it attempts to cool down monetary growth.

The Federal Reserve raised its target for the federal funds rate by 25 basis points to 1.75 per cent on Tuesday, the third rate increase since the end of June. Analysts expect the Fed to raise rates further in coming months.

But the level still stands below the 1.98 per cent one-year deposit rate in China, Tang said, adding that Chinese lending rates also remain higher than US equivalents if the upward floating range is fully enforced.

"The effect (on reducing capital inflows) will be bigger when the US rate goes above 1.98 per cent," he said, "Because they (speculators) are still making money now although the rate differentials have narrowed."

China's macro-management, which aims to slow down economic growth moderately, is at a critical juncture, with key economic indices sending mixed signals.

While consumer price index remains at high levels that call for an interest rate rise, the growth in money supply and new loans has been slowing more significantly than expected.

But macro-management measures, including credit curbs, have already amplified the impact of the nation's distorted financing structure on the banking industry, said Li Yang, director of the Institute of Finance & Banking (IFB) under the Chinese Academy of Social Sciences, an influential think tank.

The rapid fixed-asset investment growth last year, which the State is trying to slow down, was heavily financed by bank loans, making the banking sector vulnerable to potential fluctuations in economic and investment growth.

"Should economic growth slow abruptly and big numbers of fixed investment projects be suspended or cancelled, new bad loans will soon emerge," Li said on Friday at a ceremony launching the IFB Blue Book China: Banking and Financial Market Development 2004.

The loan expansion boosted bank profits last year, enabling them to reduce their huge non-performing loans by faster write-offs while exacerbating deep-rooted problems in the financing structure, according to the blue book.

Chinese banks' reliance on interest rate income grew significantly in 2003, increasing potential lending risks, while the problem of a asset liability mismatch worsened with more long-term loans being carved out, it said.

Meanwhile, the capital market, which Li said badly needs to play a bigger role in funding economic growth, suffered major difficulties partly as a result of ongoing macro-management.

Direct financing, or funds raised in equity and bond markets as opposed to those through bank loans, accounted for a meagre 4.8 per cent of total fund-raising last year, the lowest since 1997.

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