Beijing debates the yuan

By George Chen
December 30, 2010
There’s apparently growing debate in Beijing over the possibility of
interest rate reform next year. The latest opinion was voiced by a
senior central bank official, who said the government should lift the
ceiling on bank deposit rates to help rein in accelerating inflation
in the world’s second-biggest economy. Will this happen in 2011? It
seems much more likely than the possibility of a fully convertible
yuan anytime soon.
“China should allow deposit rates to float upwards. It would gradually
enable the market to price in expectations of interest rate rises,”
Sheng Songcheng, head of statistics at the People’s Bank of China,
said in an article published on the central bank website late on
Dec. 29. “That would help change negative real deposit rates and
curb inflation,” he added.
If Sheng had published the article as a commentary in a local
newspaper, it would more likely have been considered his personal
opinion, but posted on the central bank’s website, the top
headline on the front page no less, it’s certainly something to be taken
very seriously. In my view, Sheng’s article was published not only for
the market to analyze but also as a pitch to the top leaders in
Beijing for more serious consideration.
Beijing controls China’s interest rate market by setting a ceiling on
deposit rates and a floor on lending rates. This protects banks from
competition and ensures they have a decent interest rate margin, which
is around 3 percentage points now — that’s partly why banking jobs in
China are very popular and considered one of the most stable jobs, in
particular with big state-owned lenders.
Many people say working for a bank in China means you
have an “iron rice bowl”. The interest rate margin provides a safe and
stable channel of profit for banks. Whatever they do, they have the “3
percentage points” to make money. However, given that the rate is fixed
by
the central bank, it may also explain why local people often complain
about the service they receive at big banks in China. How bad? You
should
consider it normal if you are stuck in a long queue for about
30 minutes or even an hour before you reach the teller.
The central bank usually raises both loan and deposit rates, like the
newest rate increase on Christmas Day, which leaves the profit margin
of banks unchanged. If interest rate reform really takes place
next year, we should see a lot of interesting stories about the
banking industry. At least, I do hope more competition can bring
Chinese financial consumers better service.
In fact, any move towards a more market-oriented interest rate reform
is not just about the banking industry. Such moves will also affect
the foreign exchange rate of the yuan, which may well explain why some
officials at the State Administration of Foreign Exchange don’t really
like the idea of a free interest rate market. They say it may
encourage more speculative money inflows to bet on faster yuan
appreciation, making the foreign exchange regulator’s job more
difficult or less important to some extent.
Why less important? You might think they would be busier fighting a
faster rising yuan. Yes and no — if you have some decent central bank
sources in Beijing, you may come to know that there’s always a strange
tension between the PBOC and the SAFE, similar to the tension between
interest rates and the foreign exchange rate. I remember a SAFE
official once privately told me that the day the yuan becomes fully
convertible may be the same day the offices of the SAFE are closed.
This may sound extreme but think — the SAFE’s job is to control the
yuan, the more convertible the yuan becomes, the less controls you need.
Then that will also affect many people’s jobs, promotions and
even their political careers. Does this explain the unique relationship
between the SAFE and the PBOC?
Currently, the SAFE is one rank lower than the PBOC as foreign exchange
regulation is considered a function of the central bank in China.
The current head of the SAFE is Yi Gang. He is also a deputy governor
of the PBOC and reports to central bank chief Zhou Xiaochuan.
However, some SAFE officials believe SAFE should play a more important
and independent role in making foreign exchange policy and
related matters, given the significance of the yuan, which often has a
major impact on China’s diplomatic relations such as
the ties with the United States. To some extent, some market observers
say the unique tension and internal bureaucracy between the SAFE and the
PBOC
actually serve to slow currency reforms and the internationalisation of
yuan.
So, who’s going to have the final say? The State Council, China’s
cabinet led by Premier Wen Jiabao and President Hu Jintao of course.
Hu is going to meet U.S. President Barack Obama next month and the two
gentlemen will for sure touch upon the yuan issue.
From all the signs I can see here, China is ready to let the yuan rise
faster next year, so our American friends should be happier. In return,
at least Hu deserves a better reception during his visit. Remember
Hu’s last visit to the United States? It was not considered a very
successful or happy trip by some political observers.
Meanwhile, the yuan debate will continue at home, but this time
The central banks seems determined to push forward interest rate reforms
first to make Chinese people feel happy. Then Hu and Wen should be happy
too. Some people say central bankers are the real politicians in China,
and I sense their counterparts at the
Federal Reserve are going to perform a similar role. Do you agree?

ZhouBy George Chen
The opinions expressed are the author’s own.

There’s apparently growing debate in Beijing over the possibility of interest rate reform next year. The latest opinion was voiced by a senior central bank official, who said the government should lift the ceiling on bank deposit rates to help rein in accelerating inflation in the world’s second-biggest economy. Will this happen in 2011? It seems much more likely than the possibility of a fully convertible yuan anytime soon.

“China should allow deposit rates to float upwards. It would gradually enable the market to price in expectations of interest rate rises,” Sheng Songcheng, head of statistics at the People’s Bank of China, said in an article published on the central bank website late on Dec. 29. “That would help change negative real deposit rates and curb inflation,” he added.

If Sheng had published the article as a commentary in a local newspaper, it would more likely have been considered his personal opinion, but posted on the central bank’s website, the top headline on the front page no less, it’s certainly something to be taken very seriously. In my view, Sheng’s article was published not only for the market to analyze but also as a pitch to the top leaders in Beijing for more serious consideration.

Beijing controls China’s interest rate market by setting a ceiling on deposit rates and a floor on lending rates. This protects banks from competition and ensures they have a decent interest rate margin, which is around 3 percentage points now — that’s partly why banking jobs in China are very popular and considered one of the most stable jobs, in particular with big state-owned lenders.

Many people say working for a bank in China means you have an “iron rice bowl”. The interest rate margin provides a safe and stable channel of profit for banks. Whatever they do, they have the “3 percentage points” to make money. However, given that the rate is fixed by the central bank, it may also explain why local people often complain about the service they receive at big banks in China. How bad? You should consider it normal if you are stuck in a long queue for about 30 minutes or even an hour before you reach the teller.

The central bank usually raises both loan and deposit rates, like the newest rate increase on Christmas Day, which leaves the profit margin of banks unchanged. If interest rate reform really takes place next year, we should see a lot of interesting stories about the banking industry. At least, I do hope more competition can bring Chinese financial consumers better service.

In fact, any move towards a more market-oriented interest rate reform is not just about the banking industry. Such moves will also affect the foreign exchange rate of the yuan, which may well explain why some officials at the State Administration of Foreign Exchange don’t really like the idea of a free interest rate market. They say it may encourage more speculative money inflows to bet on faster yuan appreciation, making the foreign exchange regulator’s job more difficult or less important to some extent.

Why less important? You might think they would be busier fighting a faster rising yuan. Yes and no — if you have some decent central bank sources in Beijing, you may come to know that there’s always a strange tension between the PBOC and the SAFE, similar to the tension between interest rates and the foreign exchange rate. I remember a SAFE official once privately told me that the day the yuan becomes fully convertible may be the same day the offices of the SAFE are closed.

This may sound extreme but think — the SAFE’s job is to control the yuan, the more convertible the yuan becomes, the less controls you need. Then that will also affect many people’s jobs, promotions and even their political careers. Does this explain the unique relationship between the SAFE and the PBOC?

Currently, the SAFE is one rank lower than the PBOC as foreign exchange regulation is considered a function of the central bank in China. The current head of the SAFE is Yi Gang. He is also a deputy governor of the PBOC and reports to central bank chief Zhou Xiaochuan.

However, some SAFE officials believe SAFE should play a more important and independent role in making foreign exchange policy and related matters, given the significance of the yuan, which often has a major impact on China’s diplomatic relations such as the ties with the United States. To some extent, some market observers say the unique tension and internal bureaucracy between the SAFE and the PBOC actually serve to slow currency reforms and the internationalisation of yuan.

So, who’s going to have the final say? The State Council, China’s cabinet led by Premier Wen Jiabao and President Hu Jintao of course. Hu is going to meet U.S. President Barack Obama next month and the two gentlemen will for sure touch upon the yuan issue.

From all the signs I can see here, China is ready to let the yuan rise faster next year, so our American friends should be happier. In return, at least Hu deserves a better reception during his visit next month. Remember Hu’s last visit to the United States? It was not considered a very successful or happy trip by some political observers.

Meanwhile, the yuan debate will continue at home, but this time the central bank seems determined to push forward interest rate reforms first to make Chinese people feel happy. Then Hu and Wen should be happy too.

Some people say central bankers are the real politicians in China, and I sense their counterparts at the Federal Reserve are learning to perform a similar role. What’s your say?

George Chen is a Reuters editor and columnist based in Hong Kong.

Photo: China’s central bank governor Zhou Xiaochuan answers a question at a news conference during China’s annual session of parliament, in Beijing March 6, 2010. REUTERS/Jason Lee

One comment

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The article is well-written, but there’re some points I feel worth debating about.
The author apparently wants to say: A.China will likely (and should) accelerate interest rate reform –> That would lead to B: more difficult management of the exchange rate–> and thus, C: more tension between PBOC and SAFE.
I have several reservations:
1. Conclusion, C, looks problematic. If SAFE is a function, or part of POBC, how could it conflict with POBC? It’s like saying there’s growing tension between author George Chen and the Chinese People. But George is one of Chinese. Only two sperate entities, such as China and the US, can conflict each other. But you could say SAFE conflicts with other agencies/functions of PBOC, that’s a possibility.
2. The author implies that once yuan becomes fully convertible, SAFE loses its function. That’s dubious. Because one of the central banks’ three functions is to maintain stability of its currency vis other currencies. (the other two objectives being lowering unemployment and controlling inflation). So, as long as a nation has currency, convertible or not, SAFE, or rather POBC, has that function.
3. the last question of the article looks not convincing. All central bankers in the world are politicians. In fact, in my understanding, all government officials are politicians, partly because they make policies to balance people’s conflicting interests. (look at how the Feb makes these money-printing decisions).
My opinions are directed to the article itself, and welcome counter-auguments…

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