China's Banking and Financial Markets: The Internal Research Report of the Chinese Government

By Li Yang and Robert Lawrence Kuhn

"This is a very timely book. With the recapitalization and reform of China's banking sector now well under way, the banks are on the brink of a new era of growth and expansion. This work is the definitive reference on the banking sector in China, and is an essential tool for anyone seeking to understand the dynamics of financial intermediation on the Mainland. It sets out the facts, free of the judgment calls that so often cloud the true picture of the health of China's banking system."
--Dr. David K.P. Li, Chairman and Chief Executive, The Bank of East Asia, Limited

"As China continues its impressive pace of economic growth, the rest of the world is constantly reassessing the opportunities and challenges it presents. This book is the first official report on the status of China's financial services industry and financial markets. For the first time, the international community gets access to the same information that the Chinese government uses in making key policies. Such unique insights make this book an essential read for business leaders, investors, policy makers, scholars, and anyone who is interested in understanding China's profound impact on businesses and consumers globally."
--Maurice R. Greenberg, Chairman & CEO, C.V. Starr & Co.

"This is the first book that introduces all aspects of the Chinese banking and financial markets to international audiences. From its developmental history to its contemporary challenges, China's banking and finance markets are presented, explored and analyzed with great detail and in great depth. Both the richness of the data and the scholarly strength of the methodology are a milestone. China's increasing participation in global financial markets makes this book a must read for all financial professionals worldwide."
--Lefei Liu, Chief Investment Officer, ChinaLife Insurance

• Language: English
• Publisher: Wiley
• Release date: Nov 27, 2012
• ISBN: 9781118580288

Li Yang

Dr. Li Yang is Associate Professor of Chinese in the Department of Modern Languages at Kansas State University in the United States. She conducts research in second language acquisition of Chinese, focused on interlanguage pragmatics and second language writing. She has published articles in refereed journals and edited volumes both nationally and internationally.  

Book preview

Part I

Macro-economy and Policies

1

The Macroeconomic Situation

Economic growth

Since the initiation of its policy of reform and opening up in late 1978, China’s economy has maintained a comparatively rapid growth rate. However, constrained by the statistical methods used in China, our GDP, as formerly calculated, has been underestimated. In 2004, an economic census was, for the first time, conducted throughout the country. The results revealed a total GDP of around 16,000 billion yuan, at 2004 prices, which was 2,300 billion yuan more than the figure previously calculated. Subsequently, China’s total GDP was revised upward by 16.8%.

Using the trend-deviation method, the National Bureau of Statistics of China (NBSC) revised the historical data by estimating the corrected value of that data in accordance with the proportionality coefficient obtained by assessing, from 1993 to 2003, the proportion of the trend value of the original historical value and the substantial value. The GDP growth rate was thus revised and China’s average economic growth rate from 1978 to 2004 was calculated at 9.6%, up 0.2% on the figure previously calculated. The economic growth rates for half of those years exceeded 10%. Overall, with the gradual development of the Chinese market economic system, China has entered into a period of steady and rapid economic growth, during which the economic growth fluctuation rate is gradually diminishing, thus fundamentally changing the tremendous periodic fluctuations under the planned economic system.

In spite of the impact of unfavorable factors, such as sky-high petroleum and oil prices and concerns over the bird flu epidemic, the Chinese economy in 2005 still maintained strong growth momentum, with the annual GDP growing to 18,232.1 billion yuan. China’s total GDP in 2005 was equivalent to US$2,225.7 billion, calculated in accordance with the annual midpoint exchange rate, with the GDP per capital reaching US$1,700. Thus its total GDP surpassed that of France, making it the fifth-largest economy in the world.

In 2005, China’s economic growth rate registered 9.9%, slightly lower than the 10.1% of the previous year, yet well above the 8% goal set by the government at the beginning of the year and also far more than that generally anticipated by the market and all relevant agencies. With market mechanisms playing a stronger role in resource allocation, the everincreasing development of macroeconomic controls by which the government can control the economy and the progressive development of the market economy, and the continuous deepening of the reform of the financial system, China’s economy is expected to maintain its sound momentum of development for the foreseeable future.

As indicated in the results of the economic census, with the significant year-on-year increase in total GDP and the escalation of the economic growth rate, we should note some data reflecting important proportional relations of the national economy and its internal variations. The percentage adjustments of the historical GDP, as obtained in the economic census, among primary, secondary and tertiary industries have been highly skewed. In the additional 2,300 billion yuan of total GDP, the added value of tertiary industry (service industry) grew by 2,130 billion yuan, accounting for a remarkable (but predictable) 93%. As a proportion of the total GDP, tertiary industry increased from 31.9% to 40.7%.

In 2005, the economic aggregate maintained a fairly rapid growth and, at the same time, the economic growth structure continued to improve. Although the high-energy-consumption manufacturing industry (secondary industry) is still the engine propelling China’s economic growth, and the contribution of primary industry to economic growth continued to drop, tertiary industry achieved strong momentum. In that year, the added value of primary industry reached 2,271.8 billion yuan, with a growth rate of 5.2%; that of the manufacturing industry totaled 8,620.8 billion yuan, a growth rate of 11.4%; and the added value of tertiary industry amounted to 7,339.5 billion yuan, a growth rate of 9.6%.

Figure 1-1: China’s economic growth since 1995 (Unit: %)

Source: National Bureau of Statistics of China

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Investment and savings

China’s economic growth has been propelled, primarily and constantly, by the strong investment demand (capital formation). Since the advent of China’s policy of reform and opening to the outside world, its investment rate has been unsteady but generally high, rising during the early stages of this process, when the investment rate was 38%. In 2004, its investment rate moved up to the high level of 44%. Accordingly, China’s final consumption rate declined continuously, to the point where in 2005 it had dropped to 56% (see Figure 1-2).

However, though China’s high investment rate is, more often than not, a concern, its savings rate showed the same growing trend. With the exception of 1993, since 1990 the savings rate has always been higher than the investment rate (see Figure 1-3). Based on this one aspect of economic operation, since the 1990s there appears to have been one noticeable inflation period in China (from 1993 to 1995). However, in most years the rate of price increases was kept under reasonably steady control, and from 1998 to 2001 (during the Asian Financial Crisis) there was even a historically rare period of deflation.

In view of the lag in microeconomic data, Chinese scholars generally use the change in the fixed-asset investment growth rate as the basis of their analysis, but this kind of analysis excludes the impact of inventory investment. Although the Chinese government enacted stringent tightening through macro-control measures — including in 2004 tightening monetary policies and imposing stricter credit policy, and in 2005 introducing various tax, banking and land-supply controls in a bid to curb the bubbling phenomenon of the realestate market — fixed-asset investments maintained a faster growth trend in 2005. The same year’s fixed-asset investment for society as a whole reached 8,860.4 billion yuan, a 25.7% increase over the previous year, with the growth rate dropping only 0.9 percentage points. Urban fixed-asset investments reached 7,096 billion yuan, up 27.2%; rural asset investments increased by 18.0%. The comparatively steady state of the investment growth rate serves to virtually guarantee the higher economic growth rate. However, urban fixedasset investments saw a gradual escalating trend. From January to February 2005, the nationwide urban fixed-asset investment growth rate was 24.5%, reaching 28.8% in June. These figures show that investment demand remained vigorous despite the government’s tightening measures.

Figure 1-2: China’s capital formation and final consumption rate through 2004 (Unit: %)

Source: 2005 China Statistical Yearbook

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Figure 1-3: Domestic savings and capital formation rate (Unit: %)

Source: IMF

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However, the structure of fixed-asset investments is still unbalanced. By the end of 2005 there were marked differences in the fixed-asset investment growth rates for all industries, mainly resulting from changes in the corresponding price levels in all industries. Prices in the mineral and mining industry, for example, increased considerably, attracting enterprises to increase their investment in the mining industry on a large scale. In 2005 the fixed investment growth rates in the mining and manufacturing industries rose by 49.5% and 38% respectively. The investment growth rate of the wholesaling and retailing industry, and the accommodation and catering industry, rose by 39.9% and 55.7% respectively. These figures illustrate that, despite the lower final consumption rate, the growth of real consumption demand of Chinese citizens was comparatively high.

It is worth noting that the investment growth rate of the real-estate industry, which drew the attention of the general public, was only 23.6%, some 4 percentage points lower than the growth in total fixed-asset investments. The fixed-asset investments in education, science and technology, water conservancy and the environment, and in the banking industry, for example, were far lower than the overall fixed-asset investment growth rate. In particular, the investment growth ratio of the information industry was negative for all months, while that for education accounted for no more than 50% of the total investment growth rate. From an industry-structure viewpoint, China’s current investment is still concentrated in the larger energy-consuming industries, which underlines the marked shortage of growth in the so-called intensive economy and in investments in efficient productivity driven by technological progress.

Figure 1-4: Growth rate of fixed asset investment of all trades in 2005 (Unit: %)

Source: National Bureau of Statistics of China

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Looked at on a regional basis, fixed-asset investment was still concentrated in eastern regions where, in 2005, the fixed-asset investment growth rate reached 26.1%, mainly in Shanghai, Jiangsu, Zhejiang, Shandong and Guangdong. While the eastern regions’ proportion of the nationwide fixed-asset investment dropped slightly, from 55.2% in 2004 to 54.4%, it still remained high. Fixed-asset investment growth in the central regions — Hunan, Hubei, Henan, Jilin, Anhui, Shanxi, Jiangxi and Helongjiang — reached 34%, accounting for 22.2% of nationwide fixed-asset investments. This represented a 1 percentage point increase over the previous year. In the western regions the growth rate was 29.9%, which represented a slight decrease (from 21.5% to 21.3%) in its claim on the total nationwide fixed-asset investment in 2004.

As these regional figures indicate, despite the Chinese government’s attempts to redress the imbalances in regional economic development and the attendant economic and social problems arising from the development process through a succession of regional development strategies, the imbalances persist and will not be easily changed in the short term.

Prices

During the mid 1980s, the late 1980s and into the early 1990s, China experienced three noticeable periods of inflation, which were related to both reforms in its price system and the considerable increase in money supply. In the early 1990s, for instance, inflation was induced by removing controls on grain prices nationwide. During these periods of inflation, the investment growth rate was at the peak value of a periodic fluctuation. As a matter of fact, the large-scale gains associated with several spurts in the investment growth rate during these periods were largely accompanied by correspondingly high rates of inflation.

In 1994, China’s price index reached its peak following the reform and opening-up policies, subsequently falling little by little. From 1995, total domestic savings were larger than total domestic investments, which indicated a long-term trend, and thus the pattern of macroeconomic cooperation changed radically. And this change was reflected in the price level, such that in 1997 there was a fall in the price index and a low price growth rate was maintained for five consecutive years under the influence of the Southeast Asian financial crisis.

With the growth in income of both urban and rural residents, the deepening of housing-system reforms, the implementation of the accommodative monetary policy, and the adjustment of the asset structure of the commercial banks, after 2000 residents enjoyed greater economic mobility and, with the increased consumption, the commercial banks rapidly increased residential mortgage loans and loans for purchasing private motor vehicles. The demand for motor vehicles and houses was rising to unprecedented heights. As a consequence, from 2002, driven by the rebound of the investment growth rate, all kinds of price indices gradually rose and China was able, temporarily at least, to lift itself out of the deflationary period which had tormented the economy for so many years. In 2004 the consumer price index (CPI) rose by 3.9%. From 2004 to the spring of 2005, prices for some resource products, such as petroleum and mineral products, showed a marked increase, and there was a shortage of technical migrant workers in some regions,¹ thus pushing up the wages for peasant workers. In addition the prices for water, electricity, liquefied gas and admission fees for tourism spots generally moved upwards, leading many people to predict that cost-push inflation would pose a great threat to China’s economy in 2005.

Nevertheless, the real price trend went against that which had been generally anticipated. Though investment, savings and economic growth rates all remained at a comparatively high level, there was no corresponding increase in prices. On the contrary, in fact; all kinds of price indices began to show a gradual and steady decline. In 2005, while the CPI climbed by 1.8%, the ex-factory price of manufactured goods rose by 4.9% and the purchasing price of raw materials, fuel and power increased by 8.3%, the annual purchasing price declined on a monthly basis, with the purchasing price of raw materials, fuel and power in December rising by only 5%. As the economy’s dependence on energy has been considerably reduced, the price hikes in energy and raw materials did not drive up the consumer price index. The overall falling trend for all kinds of price indices in 2005 illustrates that cost-push inflation did not materialize in China.

Figure 1-5: China’s price index (1987–2005)

Source: China Statistical Yearbook

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The general price trend in 2005 was basically characterized by a fall followed by a rise. As Narrow Money (M1) continuously decreased, the CPI moved downwards from 3.9% in February 2005 to 0.9% in September, thus precipitating subsequent anxiety over potential deflation. After June, the M1 growth rate gradually flattened out and even showed signs of a slight upward movement. Conversely, the growth rate of Broad Money (M2) decreased drastically (on a monthly basis) and, affected by the change in the growth of the money supply, the CPI fell to its minimum point in September before gradually moving upwards to reach 1.6% in December (see Figure 1-6). All in all, the CPI in 2005 was lower than the one-year fixed-deposit rates and the so-called negative interest rate did not continue. As the price index falls, the pressure from price hikes diminishes, so China has not entered into the interest-raising period as experienced by the United States of America.²

The considerable monthly fall in the CPI in 2005 was caused by the slide of rice prices nationwide. As the weighting of food in CPI statistics reached 34%, so the price rise of 2.9% in foodstuffs drove the CPI up 1%. The upward trend in the CPI in 2004 was also fueled by rising grain prices, thus driving the current year’s grain price up 33%. The price of grain only rose by 1.4% for the whole of 2005, which was in sharp contrast to 2004 and led directly to the fall in the CPI. In 2005, with a deduction for the change in grain prices, the CPI registered 1.2%.

Compared with the considerable fluctuation in grain prices, other commodities which contribute to the CPI remained steady. On the whole, prices for durable consumer goods declined to some degree, but influenced by the upsurge in demand from urban consumers, the prices of residential products registered a slight increase.

Figure 1-6: Changes in the price indices of all kinds in China

Source: National Bureau of Statistics of China

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It is noteworthy that under the restrictive influence of price controls and the statistical methods employed, China’s current CPI cannot fully reflect the degree of inflation and the impact of price changes on domestic consumption. But with the progress of reforms to the pricing of resources, hidden inflation will be gradually released and the weights of all kinds of commodities that constitute the CPI package will change markedly. It is likely, therefore, that the statistical CPI will change in turn. However, the excessive supply of China’s final products as a whole will not be easily changed, thus reducing the motivation for a continuous rise in the CPI.

Though the overall trend of price indices of all kinds has remained consistent, the consumer price index remains at its lowest level and the purchasing price index of raw materials has reached its highest level to date. Furthermore, while the price index of capital goods was much lower than that of raw materials, it was higher than the ex-factory price of manufactured goods. With respect to the basic characteristics of price changes, the further upstream the products are, the higher the prices; the further downstream the products are, the lower the prices — a circumstance that is determined by the differences in the degree of market competition of all kinds of products and the relation between supply and demand.

However, after September 2005, while the CPI tended towards stability, other kinds of price indices accelerated the tendency towards price adjustments. For example, the purchasing price index of major raw materials dropped from 11.5% in January to 8.1% in August and then to 5% at the end of the year. The price index of capital goods fell from 7.8% in January to 7.3% in August and then to 4.2% at the end of the year.

China’s reform of resource prices has already been launched and is being steadily pushed forward. In 2005 the nationwide water price went up by 7.8%. The electricity price was also adjusted but on a small scale, up by 1.9% only. With respect to the price of liquefied gases, in December 2005 the State Development and Reform Commission decided to reform the formation mechanism of the ex-factory price of natural gas by raising the price on a nationwide basis. However, with the deepening of the market reform of electricity and coal prices, there will be room for further adjustments to the prices of these assets.

Since 2003 the price of real estate in China has risen rapidly, particularly in the Yangtze River Delta Region where prices raised concerns in the central government over a potential market bubble. Early in 2003, the People’s Bank of China tightened its credit policy with a view to curbing the rapid growth of real-estate loans, but the move was not noticeably effective. In 2004 the nationwide price of commercial residential buildings climbed by 15.4%. In the first quarter of 2005, the price of Shanghai’s real estate rose by more than 20%. In fact, real-estate prices in large and medium-sized cities advanced so rapidly that on March 16, 2005, the central bank was forced to raise interest rates on residential mortgage loans and increase the required ratio of the down-payment on such loans in areas where prices were clearly rising too quickly.

Soon after that, the People’s Bank of China, the Ministry of Finance, the National Development of Reform Commission, the State Administration of Taxation, the Ministry of Construction and the China Banking Regulatory Commission jointly took stringent measures to tighten the real-estate market. However, these policies produced different results in different regions in the country. While real-estate prices in places such as Shanghai, Nanjing and Hangzhou dropped to varying degrees, those in Beijing and the Pearl River Delta regions climbed by an even larger scale. In Beijing in 2005 the price of commercial residential buildings rose by 19.2%. In 2005 the price of real estate in 70 large and medium-sized cities still rose by 7.6% (on average), far more than the price indices of other sectors.

Business enterprise sectors

China has entered into the middle stage of industrialization,³ and the conditions of its industrial enterprises play an important part in the operation of the micro-economy. In 2005 the general conditions of China’s enterprise sectors continued to maintain the positive development momentum of 2004. Operations remained stable; the annual industrial added value was 7,619 billion yuan, up 11.4% over the previous year. And the industrial enterprises above designated size produced an industrial added value of 6,642.5 billion yuan, an increase of 16.4%, with the growth rate falling by 0.3 percentage point. The sales/output ratio for industrial enterprises above designated size reached 98.1%, 0.3 percentage point higher than in 2004. Correspondingly, the inventory of the enterprises declined slightly.

In 2005, the industrial enterprises above designated size realized a total profit of 1,436.2 billion yuan, 22.6% higher than in 2004. However, profit growth was unevenly distributed among different industries, with the majority of profit-making enterprises being concentrated in the mining industry (mainly coal mining), petroleum, ferrous metals, non-ferrous metals and non-metallic minerals, with increased profit growth rates of 74.3%, 69.2%, 37.5%, 109.5% and 86.7% respectively over the previous year.

The considerable growth in profits in these industry sectors was largely the result of the rapid rise in resource prices at home and abroad. Improvements in cost controls and management effectiveness were relatively minor factors in this. Affected by considerable price rises in upstream products, the profits of downstream products showed different levels of decline. For example, the transport-equipment manufacturing, chemical fiber, construction materials, and electronic telecommunications industries recorded a fall in profits of 20.2%, 29.3%, 4.2% and 2.3% respectively. Other enterprises fared even worse. By November 2005, among the industrial enterprises above designated size, the amount of losses in the loss-incurring enterprises reached 184.4 billion yuan, up 58.5% over the same period in 2004. The amount of loss for the state-owned and state-holding industrial lossincurring enterprises totaled 100.9 billion yuan, an increase of 95.3%. Figure 1-7 records the profit growth rate and the loss growth rate for Chinese enterprises in 2005.

Figure 1-7: Profit and loss growth rate of China’s industrial enterprises (Unit: %)

Source: National Bureau of Statistics of China

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Although the enterprise sectors maintained a relatively high profit growth rate, the growth rate for finished goods and account receivables also remained at a high level. By the end of November 2005, finished products of industrial enterprises above designated size reached 1,260.6 billion yuan, up 17.8% from the previous year. To this figure, the state-owned enterprises contributed 380.1 billion, an increase of 8.5% over the previous year. The net account receivables of industrial enterprises reached 2,724.4 billion yuan, up 16.3% from the same period the previous year, of which state-owned and state-holding enterprises contributed 789.3 billion yuan, up 4.6%. These increases illustrate that inventories have risen considerably and that fund transfers between enterprises are not yet flowing smoothly. This poor situation not only reduces the future capacity of enterprises to earn profits but also restrains the rising tide of prices.

It is worth noting that the Entrepreneur Confidence Index, which is often used to measure the anticipation of the future economic outlook, climbed to its maximum in the fourth quarter of 2003 but gradually dropped in 2004. As indicated by the polling of 19,500 enterprises of all kinds conducted by the National Bureau of Statistics of China (NBSC), the Nationwide Entrepreneur Confidence Index in the four quarters of 2005 was 135.5, 128.5, 127.6 and 125.4 respectively. At the end of the year, the Index had dropped by 5.4 points compared with that of the end of 2004, which indicated that entrepreneurs were not optimistic about future economic trends (see Figure 1-8).

The Business Survey Index (BSI) also showed a similar pattern. In 2005, the nationwide BSI (all quarters) was 131.7; the first quarter registered 133.4. On the whole, although the index remained high, it declined by 3% compared with that of the end of 2004, confirming an overall deterioration.

Figure 1-8: China’s Business Survey Index & Nationwide Entrepreneur Confidence Index (since 2003)

Source: National Bureau of Statistics of China

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Resident sectors

Since the beginning of reform and opening up, China’s rapid economic growth and the equally rapid progress of urbanization have pushed up per-capita income levels for urban residents and, at the same time, promoted the continuous rise in consumption levels. Economic growth and the rise of privately owned enterprises, joint ventures and foreign-invested enterprises have provided huge employment opportunities, which have effectively absorbed the labor force laid off during China’s market reforms. They have also absorbed both urban dwellers seeking employment and the labor force migrating from agricultural sectors. As a result, China is no longer confronted with a dangerously high unemployment rate nor does it have a large industrial reserve army.

At the end of 2005, the registered unemployment rate in cities and towns was 4.2%, the same as for the corresponding period of 2004. However, Chinese residents were faced with ever-stronger competitive pressures in the employment market brought about by the increased mobility of the labor force. Mobility serves to enhance the efficiency of labor force allocations, which is the inevitable result of China’s market reforms.

Although income levels have increased dramatically since the beginning of the reform period, the growth in personal income levels has not completely kept pace with the economic growth rate. Roughly speaking, during the period from the beginning of the reforms to the early part of the new century, the income growth rate of the resident sectors always maintained an upward trend and was slightly higher than the economic growth rate in the government and enterprise sectors. Yet this situation has changed in recent years, when the income growth rate has, on the whole, only kept pace with the economic growth rate and has, at times, been slightly lower. In 2005, for instance, the annual average percapita disposable income for urban residents reached 10,493 yuan after allowing for inflation, the real growth rate was 9.6%, 1.9 percentage points higher than that in 2004. The net income of farmers reached 3,255 yuan, a real increase of 6.2% but down 0.6 percentage points compared with 2004. These two growth rates were also lower than the high GDP growth rate of 9.9% of the same year.

Figure 1-9: Comparison of residents’ income growth rate & economic growth rate

Source: National Bureau of Statistics of China

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It is particularly noteworthy that the income growth rate of rural residents in China remains at a lower level. At one point in 2004, profiting from the rapid rise in grain prices, the income growth rate of rural residents was actually higher than that of urban residents and of the economic growth rate, which undoubtedly contributed to the narrowing of the income gap between urban and rural areas and to the development of the consumer-goods market in rural areas. However, this situation didn’t last long and the fall in the growth rate of grain prices in 2005 brought a related decline in rural income growth. At the end of 2004 and during the early part of 2005, a new phenomenon emerged — a shortage of technical migrant workers and a general rise in wages of migrant workers in some areas, particularly in the Yangtze River Delta Region, the Pearl River Delta Region and Fujian Province. However, with an increased supply of laborers from the countryside this situation was soon reversed and the wage levels of migrant workers remained stable. Thus we believe that without a fundamental change to the present situation of large numbers of surplus laborers, it will be difficult for income levels in the resident sectors to maintain a healthy growth rate, a fact that will engender complications in China’s economic development. On the one hand, long-term lower growth in wages helps to maintain the low-cost advantages of Chinese products; on the other hand, it also retards development in domestic demand and consumption, thus leading to greater reliance on investment to fuel further economic growth.

A growth in income is bound to lead to improvements in the quality of life of urban and rural residents. The important index that reflects such improvements in China — the Engel coefficient (the proportion of food expenditure to total consumer expenditure) — has maintained a constant decline. As Table 1-1 indicates, from 2001 to 2005 the Engel coefficient in rural areas dropped from 47.7% to 45.5%, while in urban areas this dropped from 38.2% to 36.7%. While the Engel coefficient has been constantly going down, the consumption of motor vehicles, housing, and leisure and recreation has been constantly increasing.

Table 1-1: Life of urban and rural residents during the 10th Five-year Plan (2001–2005)

Source: 2005 Statistical Bulletin jointly issued by the People’s Bank of China and National Bureau of Statistics of China

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While the income growth rate is lower than the overall economic growth rate, the high growth of the savings rate of Chinese residents still commands our attention. Since reform and opening up, the savings rate of the resident sectors has always been comparatively high. This generates the huge domestic capital sources that constitute China’s capital accumulation, and has also become one of the important factors that have underpinned the rapid development of the economy.

In China, because of the lack of relevant and timely statistical data, it is not an easy task to access the savings rate of all economic entities. However, considering that the main form of financial savings is through the banking system, we can analyze the approximate changes in residents’ savings habits by observing the growth rate of their savings deposits. These savings deposits have maintained a strong momentum of growth.

In 2004, the growth rate of residents’ savings deposits took a downturn, which led to some anxiety over the liquidity of the banking institutions, but this situation was soon reversed in 2005. The statistics show that the savings growth rate in all months of 2005 averaged more than 14%, with gradual growth on a monthly basis (see Figure 1-10). By the end of February 2005, the balance of foreign-currency deposits and RMB savings deposits reached 14,705.4 billion yuan, an increase of 16.53% over the 2004 figure of 12,619.6 billion yuan.

This indicates that the growth rate of residents’ savings deposits is far higher than the income growth rate and the economic growth rate. Domestic consumption remains sluggish, and the high savings rate in China was further intensified in 2005.

Figure 1-10: Balances (trillion yuan) and growth rate (%) of residents’ saving deposits

Source: People’s Bank of China

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There are a number of reasons for the rising growth rate of savings deposits in 2005. First of all, the economic growth rate remained high and prices continued to fall, thus raising the real earning rate of residents’ savings deposits. Secondly, at the end of 2004 China raised the interest rate on residents’ savings, thus increasing their returns. Last but not least, the tightening of government controls on the real-estate market in 2005 triggered a considerable decline in the growth rate of bank loans to residents, including personal-housing mortgage loans by commercial banks.

This resulted in an end-of-year balance of individual bank loans of 2,200 billion yuan, which represented an increase of 199.6 billion yuan from the beginning of the year, an increase of 10.4% over the same period the previous year and a growth rate of 16 percentage points below that of 2004. Of these figures, personal-housing mortgage loans increased by 244.4 billion yuan from the beginning of the year, which was down 162.9 billion yuan over the same period the previous year. Loans for motor vehicles decreased by 50 billion yuan from the beginning of the same year.

While residents’ foreign-currency deposits and RMB savings deposits rose, there was a notable change in the preference for holding such deposits (see Figure 1-11). This had something to do with expectations of a revaluation of the RMB, which had been repeatedly played up since 2004. The overall trend shows that under the influence of such expectations, the growth rate of residents’ foreign-currency and RMB savings deposits slipped on a continuous basis. In fact, for a time it showed negative growth, which led to a decrease in the net balance of foreign-currency deposits and RMB savings deposits.

In June 2003 foreign-currency deposits totaled 90.8 billion yuan, but from June to September the balance plummeted from $76.5 billion to $74.07 billion. In July 2005, after improvements to the formation mechanism of the RMB exchange rate, foreign-currency deposits took a rapid downward turn. Faced with this situation, the People’s Bank of China soon raised interest rates on the U.S. dollar and Hong Kong dollar deposits in response to higher interest rates on the international market, particularly in America, after the reform of the foreign-exchange system. For example, the upper limit for rates on one-year U.S. dollar deposits was raised to 1.625% from 1.125%. After that, in August and October 2005, the central bank again raised the ceiling on one-year U.S. dollar deposits to 2% and 2.5% respectively.

Figure 1-11: Balances (billion dollars) and growth rates (%) of residents’ foreign-currency deposits 2003–2005

Source: People’s Bank of China

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Mainly as a result of the raised interest rates, at the end of 2005, foreign-currency deposits rebounded slightly, reaching $74.381 billion. This in turn drove up the growth rate of foreign-currency deposits, which indicated that the adjustment to the residents’ savings deposits and the deposit structure in China were strongly influenced by expectations of changes to the RMB exchange rate. So we should say that this condition poses new challenges to the operation of China’s monetary policy.

Government sectors

The transformation of fiscal policy since 2000

In recent years, the Chinese government’s fiscal policy has undergone a series of marked changes. The government has begun to steer the steady growth of the economy by exercising policies commonly utilized by countries with a market economy. However, while fiscal policy plays an increasingly important role in the development of its economy, China is facing an increasing number of difficulties and challenges.

In 1997, the Asian financial risk impinged externally upon China’s economy. As people generally thought this shock might cause a drastic decline in China’s economic growth and have a serious impact on employment, social stability and on the reform process itself, the government began to adopt an expansive, proactive fiscal policy to stimulate domestic demand and fuel economic growth.

Thereafter, the government adopted a similar policy to conduct the counter-cyclical adjustment and control of the macro-economy. This approach didn’t change until 2003. During that period, fiscal policy was mainly characterized by a massive issuance of long-term treasury bonds for construction with a view to raising funds for important infrastructure facilities and construction projects for pillar industries. Meanwhile, the government guided the commercial banks to expand their loans towards key directions of financial investment. From 1998 to 2004, the cumulative long-term treasury bonds issued by the government for construction was 910 billion yuan, thus making total investments funded by treasury bonds approximately 5,000 billion yuan (see Table 1-2), which gave full play to China’s efforts to lessen the shock of the Asian financial crisis and maintain the sustainable rapid growth of its GDP.

In 2003, China’s economy began to grow prosperous from the comparatively lower growth, with its GDP growth entering into the range of 9% or more. In the first quarter of 2004 its GDP grew at the rate of 9.7%. People were more concerned about the overheated investment and economic growth. So, in this situation, in spite of a period of confusion and argument, the government actually began to lower the expansive degree of its fiscal policy which it had started in 2003.

In 2004, some competent authorities advanced the concepts of prudent and neutral fiscal policies. The so-called prudent fiscal policy was officially established by the government as the basic approach for policy formation and its fundamental connotations were embodied in four aspects.

The first entailed reducing the issuing amount of long-term treasury bonds for construction. In 2003, for example, it began by reducing the amount of treasury bonds by 10 billion yuan, with gradual reductions thereafter (see Table 1-2).

The second involved reducing the financial deficits of the central government, which had climbed to a peak in 2003 but later began to drop gradually (see Table 1-3).

Thirdly, as the economy gradually enters into its high-speed growth path, the prudent fiscal policy reflects that the government has begun to follow a comparatively conservative policy, even though there is little consensus as to whether the development of the macroeconomy will demonstrate a deflationary or an inflationary trend. While the financial policy was actually skewed toward neutrality, the government began to emphasize the impact of the fiscal policy upon the economic structural adjustments such as the reform of taxation categories and optimization of the