Yi Gang: China's Man for Market Logic
(Beijing) -- Professional experience in academia followed by a 16-year career at the People's Bank of China has given 55-year-old economist Yi Gang deep knowledge of the nation's financial operations and monetary policy process.
Yi, who serves as a central bank deputy governor as well as head of the State Administration of Foreign Exchange (SAFE), spoke in an exclusive interview with Caixin about prudent macroeonomic policy and long-anticipated reforms for the interest rate regime.
Yi said following best supervision path would mean giving more freedom to businesses and individuals, while protecting China's economy and financial security. At every reform step, Yi said he encourages the use of pilot projects with a precondition that every experiment has to involve a practice that's theoretically feasible.
Even more important, Yi said, is that every reform step should follow a pattern of market logic. Authorities should thus let the market play a crucial role in guiding reform.
The following are questions and answers from the second half of Yi's November 25 interview with Caixin. The first half of the interview (Parts I-IV) can be found here.
Part V: Macroprudential Management
Caixin: In May, SAFE issued guidelines to foster prudent, macroeconomic management by linking banks' synthetic (meaning overall) positions in foreign exchange settlement and sales to their foreign currency loan-deposit ratios. What other instruments are considered important for prudent, macroeconomic management?
Yi Gang: Major principles of prudent, macroeconomic management include prudence and, second, paying attention to risks. For instance, we should be concerned about maturity mismatches. If too many enterprises use short-term loans to leverage long-term capital needs, we should take note of that fact. A change in market liquidity situation will present risks. There are also concerns that currency mismatches can hurt asset values when exchange rates fluctuate.
A policy decision reached in May concerning banks' synthetic positions in foreign exchange settlement and sales is a typical example of prudent, macroeconomic management. The policy addresses issues concerning course of capital for foreign currency loans, and matching loan terms with currencies. When a mismatch of lending terms and currency values reaches a certain level, management requirements affecting a bank's synthetic position is the easiest way to handle a currency mismatch. Asking banks to link their synthetic positions and loans is aimed at balancing long-term needs and currencies.
On January 1, the government's Revised Procedures for Reporting Balance of International Payments will take effect. How will these new measures strengthen cross-border capital flow supervision?
It will be improved. We believe that along with a powerful international payment statistics system, we should put the power in a cage. On the one hand, a sound system to calculate international payments and monitor cross-border capital flows should be in place. On the other hand, this supervision should not disturb anyone who obeys the law. We can build into the system enough freedom and conveniences for enterprises and individuals without compromising the nation's economic security and financial health. This is an ideal goal of supervision.
In recent years, we've seen yuan-dominated external debt grow in terms of trade finance, foreign direct investment and bond issues. How should this type of debt be managed, and should it be included in external debt statistics?
According to international rules, all external debt should be calculated, regardless of currency. For instance, all of the United States' external debt is priced in U.S. dollars. It doesn't matter whether external debt is priced in a domestic currency. This is clear in both theory and practice worldwide.
So far, yuan-dominated external debt is not included in official external debt figures, in order to maintain old statistical methodology. But this issue has been theoretically resolved, and all of China's economic liabilities to overseas entities should be calculated.
Part VI: Cultivating Market-Oriented Interest Rates
What will be the next step toward accelerating reform efforts in building a market-oriented interest rate system?
Now, rates on bond and financial products as well as loans, have been liberated. The most difficult step will involve liberating deposit rates. We will gradually do that when conditions are ripe.
Actually, China's deposit rates are not low. The one-year deposit rate is 3.25 percent. As a stable currency on an appreciation track, the yuan's deposit rate has outperformed most other currencies.
Is there a chance that deposit interest rates may decline after the ceiling is lifted?
Many people think rates will continue rising after liberalization. But what should concern us is that problems will emerge if they continue rising.
When will conditions be ripe?
There are mainly two conditions. The first is based on whether a market-formed interest rate can replace the one set by the central bank as the benchmark rate. The second one is to decide whether banks can adopt a market-oriented rate as a benchmark for internal assessments.
For instance, the Shanghai Interbank Offered Rate (Shibor) may become the benchmark rate. If in the future most pricing and capital flows in the banking system adopt Shibor as a benchmark rate, instead of the deposit rate set by the central bank, then that will be a signal for liberalization.
Of course, that's only an example. It also could be the repo rate. Regardless, if a more mature market benchmark can replace the central government's on a large scale, then it's time to loosen controls. But if there is no such market benchmark, then that kind of freedom will lead to chaos.
Is there a possibility that deposit rate liberalization can be a move toward accelerating progress in the Shanghai Free Trade Zone or similar zones in areas such as Wenzhou and Qianhai?
We encourage pilot projects in different places and think the market can trigger more innovation. But there are two hurdles to overcome before starting a pilot project. The first is to make it theoretically feasible. I believe in logic and theory. The second is practice. That is how to ensure an orderly pilot market that benefits the public.
How do you view recent capital tension in the bond market?
If we want the market to play a crucial rule, we will see fluctuations. It's natural. We should be calm and tolerate such fluctuations. Of course, the central bank will not let them expand to a point that affects economic activities. But interest rates are determined by market supply and demand, and bond prices are determined by the bond market's supply and demand relationship. We should respect the market's function in resource allocation and bear the fluctuations.
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