(Monetary Policy Analysis Group of the People's Bank of China)
Executive Summary
In 2003, under the steering of the State Council, the Chinese economy overcame myriads of difficulties such as the SARS epidemic and emerged with a good momentum of development featuring accelerated growth, improved efficiency and increased dynamics. GDP increased by 9.1 percent to RMB11.7 trillion yuan, with average per capita GDP exceeding USD1000. However, there were sideline problems associated with the rapid economic growth, such as duplicated constructions in some sectors, bottlenecks in energy and transportation capacities and growing inflationary pressures that will affect the health and sustainability of the economic and financial development.
In 2003, the People's Bank of China (PBC) continued to carry out sound monetary policy, closely monitored economic and financial developments, and took initiatives to communicate and coordinate with other relevant government agencies regarding issues of macroeconomic management. Starting from the first quarter of 2003, the PBC took necessary measures to strengthen its pre-emptive and fine-tuning actions on the macro economy: first, in face of the rapid rise of base money as a result of the increase in foreign exchange reserves, the PBC intensified withdrawal of base money through a number of mechanisms including the issue of central bank bills and sterilized open market operations; second, facing the excessively fast growth of commercial bank loans, particularly those granted to the real estate sector, the PBC timely signaled risks on real estate loans in June to further standardize its development and strengthened window guidance on commercial bank loans; third, with the consent of the State Council, the PBC raised deposits reserve ratio from 6 percent to 7 percent, freezing RMB150 billion yuan of excess reserves of commercial banks; Fourth, the PBC steadily promoted market-based interest rate reform to further improve monetary policy transmission, further widened the floating band of lending rates of financial institutions and lowered the interest rate on excess reserves of the financial institutions in December. In general, monetary policy conducted in 2003 has achieved positive results and the excessive credit growth was brought under effective control, ensuring a stable financial environment for the fast, sustainable, healthy and coordinated economic development.
Broad money M2 grew by 19.6 percent to RMB22.1 trillion yuan at the end of 2003. Rapid increase of loans by financial institutions in the first three quarters was reined in effectively in the fourth quarter. Total loans in both renminbi and foreign currencies by financial institutions increased to RMB17 trillion yuan, representing a growth of RMB3 trillion yuan in 2003; and total deposits in renminbi and foreign currencies of financial institutions increased by RMB3.7 trillion yuan to RMB22 trillion yuan. Balance of base money reached RMB5.23 trillion yuan, representing an increase of 16.7 percent from 2002. Excess reserve ratio of financial institutions stood at 5.38 percent. General interest rate level and money market rate remained broadly stable. At end-2003, official foreign exchange reserves reached USD403.25 billion, a rise of USD116.84 billion from the beginning of the year, marking the largest annual increase. RMB exchange rate was 8.2767 yuan per US dollar at end-2003.
2004 marks the 55th anniversary of the founding of the People's Republic of China. It is also a crucial year for China's reform and development. China now stands at an important historical juncture. Strengthening and improving macro economic management will be one of the major tasks for government in 2004. The PBC will, in accordance with the spirits of the 16th CPC National Congress, its third plenum and the Central Economic Work Conference, to pursue and implement an all-around, coordinated and sustainable development strategy, and in line with the principles of harmonizing development between the rural and urban areas, between different regions, between economic growth and social progress, between human beings and nature, and between domestic growth and external opening up. The PBC will continue to implement its sound monetary policy, monitor the economic and financial development, especially the price change, fund liquidity and loans granted to some over-expanded sectors, and use various monetary policy instruments to appropriately control the growth of money and credit, so as to realize a steady and relatively fast growth of the economy while at the same time attaching great importance to preventing inflation. Taking into account the time-lag effect of the faster than desired growth of money and credit in 2003, the growth of money supply and loan increase in 2004 should be controlled lower than that of 2003. M2 and M1 are projected to grow by 17 percent respectively and RMB loans to increase by RMB2.6 trillion yuan.
In 2004, monetary policy will be oriented as follows: first, further strengthening the forward-looking and scientific approach to monetary policy formulation, and maintaining the steady growth of money and credit; second, steadily advancing market-based interest rate reform and further strengthening the role of interest rate in the economy; third, keeping the RMB exchange rate basically stable at an adaptive and equilibrium level; fourth, improving credit structure to promote industrial restructuring; fifth, accelerating the development of financial market and increasing direct financing; sixth, speeding up the shareholding reform of the State-owned commercial banks and providing needed financial support to the reform of the rural credit cooperatives.
Part One Monetary and Credit Performance
In 2003, the national economy overcame myriads of difficulties and maintained the good momentum of growth. The People's Bank of China (PBC) earnestly implemented the sound monetary policy, reined in the faster than desired growth of money and credit mainly using economic means, and made strenuous efforts in promoting the sustained, rapid, balanced and sound growth of the national economy. In general, the trend of faster than desired increase of money and credit emerged in the first half of the year was effectively controlled in the fourth quarter, the exchange rate of RMB remained stable and the performance of the financial sector was broadly steady.
I. Rapid growth of money supply
Broad money M2 grew by 19.6 percent to RMB22.1 trillion yuan at the end of 2003, representing an acceleration of 2.8 percentage points over the growth of 2002. In particular, it grew by more than 20 percent from May to November, with the growth rate only posing slightly lower approaching the end of the year. Cash in circulation grew by 14.3 percent over 2002 to RMB1.97 trillion yuan. Cumulative net cash injection during 2003 reached RMB246.8 billion yuan, 87.9 billion more than 2002.
Figure 1 Monthly Movements of Growth Rates of
M0, M1 and M2 during 2003
Source: PBC Financial Survey and Statistics Department
II. Rapid increase of loans by financial institutions in the first three quarters was reined in effectively in the fourth quarter
Total loans in both renminbi and foreign currencies by financial institutions (including foreign-funded ones) increased to RMB17 trillion yuan, representing a growth of RMB3 trillion yuan in 2003 or an acceleration of RMB1.1 trillion yuan over 2002. In particular, renminbi loans grew by RMB2.8 trillion yuan over the beginning of 2003, representing an acceleration of RMB0.9 trillion yuan over 2002; while foreign currency loans grew by USD27.6 billion, representing an acceleration of USD18.5 billion over 2002. The average monthly increase of renminbi loans in the first half of 2003 was RMB296.5 billion yuan, that of the third quarter stood at RMB230 billion yuan and that of the fourth quarter fell to RMB97.9 billion yuan.
Figure 2 Comparison of Monthly Growth of Loans in Renminbi and Foreign Currencies between 2002 and 2003
Source: PBC Financial Survey and Statistics Department
In 2003, new loans in renminbi were mainly issued to four areas. First, loans for capital construction grew by RMB637.3 billion yuan, an acceleration of RMB319.9 billion yuan over 2002. Second, consumer loans increased by RMB509.1 billion yuan, accelerating by RMB139.7 billion yuan over 2002. In particular, individual housing loans grew by RMB352.8 billion yuan, accelerating by RMB85.7 billion yuan. Third, discounted commercial paper loans grew by RMB340.3 billion yuan, representing an acceleration of RMB117.1 billion yuan. Fourth, agricultural loans rose by RMB153.1 billion yuan, accelerating by RMB35.4 billion yuan. Loan increase of these four categories totaled RMB1.64 trillion yuan, accounting for 63 percent of the overall increase of loans in renminbi in 2003.
Non-performing Loans (NPL) decreased in terms of both the total amount and the ratio and profits of wholly state-owned commercial banks increased. Based on the four-category loan classification, at the end of 2003, NPL by financial institutions in the banking sector was RMB2.4 trillion yuan, 157.4 billion less than that recorded at the beginning of the year while the NPL ratio stood at 15.19 percent, down by 4.69 percentage points. In accordance with the reports published by all wholly state-owned commercial banks, the Industrial and Commercial Bank of China, the Agricultural Bank of China, the Bank of China reported operational profits of RMB62.1 billion yuan, RMB19.7 billion yuan and RMB57.0 billion yuan respectively while China Construction Bank made a profit of RMB51.2 billion yuan before loan loss provisioning.
III. Rapid growth of renminbi deposits and slight decrease of foreign currency deposits
Total deposits in renminbi and foreign currencies of financial institutions increased by RMB3.7 trillion yuan over 2002 to RMB22 trillion yuan at the end of 2003, representing an acceleration of RMB835.1 billion yuan year-on-year. In particular, renminbi deposits increased by RMB3.7 trillion yuan, representing an acceleration of RMB939.9 billion yuan. Of all deposits in renminbi, corporate deposits increased by RMB1.3 trillion yuan, representing an acceleration of RMB0.3 trillion yuan; while savings deposits surged by RMB1.7 trillion yuan, representing an acceleration of RMB0.3 trillion yuan. Foreign currency deposits dropped by USD1.92 billion in contract to a rise of USD10.72 billion in 2002.
IV. Rapid growth of base money and sufficient liquidity of financial institutions
At the end of 2003, the balance of base money reached RMB5.23 trillion yuan, representing an increase of 16.7 percent from 2002 and an acceleration of 4.9 percentage points from the growth rate recorded at the end of 2002. The growth rate of base money accelerated mainly because sterilized operation in the foreign exchange market continued to expand immensely. Money supply resulted from foreign exchange purchase increased by RMB1.15 trillion yuan in 2003, an acceleration of RMB685 billion yuan over 2002.
At the end of 2003, the excess reserve ratio of financial institutions averaged at 5.38 percent. In particular, that of wholly state-owned commercial banks averaged at 4.12 percent, that of joint-stock commercial banks at 8.33 percent and that of Rural Credit Cooperatives (RCCs) at 8.11 percent. In general, the liquidity of financial institutions was sufficient.
Box 1 Correlation between Base Money and Money Supply
The correlation between base money and money supply can be described using a formula: Money Supply (M2)=Base Money (B) X Money Multiplier (K). In the above formula, Base money equals cash in circulation plus required reserves of the banks. As base money is capable of increasing or decreasing money supply in a multiplied manner, it is, therefore, dubbed "high-powered money". The money multiplier reflects the expansion of money supply through base money, in other words, the money supply produced by one unit of base money. It is thus called "base money multiplier". The money multiplier is mainly influenced by the ratio of cash in circulation to deposits and the ratio of reserves to deposits (required reserve ratio). The ratio of cash in circulation to deposits is affected by behavior of the public. Deposits reserve ratio is the sum of the required reserve ratio and the excess reserve ratio. The required reserve ratio, in turn, is determined by the Central Bank while the excess reserve ratio is determined by the behavior of financial institutions.
At the end of December 2003, the balance of base money was RMB5.23 trillion yuan in China, broad money M2 was RMB22.1 trillion yuan and thus the money multiplier was 4.23. Base money was mainly supplied through such channels as securities dealings in open market operations, central bank lending to financial institutions, foreign exchange purchase, securities and investment. Before mid-1990s, the PBC injected base money mainly through its lending to financial institutions, while in recent years, the main source of money supply has been foreign exchange purchase in the market.
Generally speaking, given a relatively stable money multiplier, money supply keeps positive correlation with base money. In practice, however, their movements are sometimes not completely consistent with each other. First, there is a time lag between the implementation of the monetary policy and its ultimate influence on the money supply. For example, if the central bank observes a faster than desired growth of money supply, it will carry out such open market operations as issue of bill instruments in a bid to withdraw the base money and hence the growth of the base money decelerates. The money supply, however, will probably maintain its rapid growth for some time due to the time lag for the effect of the policy to finally emerge. Second, the multiplier itself will change. If the central bank adjusts the required reserve ratio or financial institutions change their excess reserve ratio, the multiplier will in turn change as well. Hence, the same amount of base money will produce different money supply.
In September 2003, in face of the rapid rise of base money as a result of intensified sterilized operation in the foreign exchange market raised the deposits reserve ratio by one percentage point. While financial institutions made up for the required reserves, they kept or even raised their excess reserve ratios in order to preserve sufficient liquidity. Subsequently, the total deposits reserve of banks rose and the total base money increased. Due to the decline of the money multiplier with the increase of the reserve ratio, however, the expansion of the base money dwindled and the money supply was thus brought under control gradually.
V. Broad stability of general interest rate level and money market rate
In 2003, the official interest rates for deposits and loans prescribed by the PBC remained stable. After the interest rate cut on February 21, 2002, the interest rate for 1-year time deposits has remained at 1.98 percent, the lowest in more than two decades of reform and opening. The interest rate for the 1-year loan stands at 5.31 percent, the required reserve ratio at 1.89 percent and the interest rate for 1-year Central Bank lending at 3.24 percent. In the fourth quarter of 2003, for large amount RMB deposits (with a maturity of more than 5 years and an amount over RMB30 million yuan), the interest rates mainly floated in the range of 3.6 to 3.7 percent, representing a slight increase of 0.5 percentage points over the beginning of the year.
