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Financial Repression in China

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  • Nicholas R. Lardy

    () (Peterson Institute for International Economics)

Abstract

The Chinese banking system has improved significantly over the past decade, but in one critical respect, it appears to have regressed. The People's Bank of China controls interest rates in a way that has led to significant financial repression--low and now negative real return on deposits--as inflation has risen in recent years. This distorted interest rate structure is a significant obstacle to further reform of the financial system and to sustaining China's rapid economic growth. Financial repression costs Chinese households about 255 billion renminbi (US$36 billion), 4.1 percent of China's GDP, and a fifth of it goes to corporations, one-quarter to banks, and the government assumes the rest. Financial repression reduces the cost to the government of sterilized intervention to sustain China's undervalued exchange rate relative to the cost it would face if interest rates were liberalized. But the financial repression that facilitates an undervalued exchange rate imposes substantial, if partially hidden, costs on China's economy. It has led to lending rates that are far too low, resulting in excess demand for bank loans and increased use of quantitative targets to control credit growth. These have led to a less efficient allocation of capital through the banking system and to a huge underground financial market. Financial repression is also contrary to the government's long-term goal of developing a commercial banking system. It has also depressed the growth of household income, undermining the government's goal of transitioning to a growth path that relies less on investment and net exports and more on domestic consumption. Finally, financial repression seriously hinders the development of a fully and efficiently functioning capital market.

Suggested Citation

  • Nicholas R. Lardy, 2008. "Financial Repression in China," Policy Briefs PB08-8, Peterson Institute for International Economics.
  • Handle: RePEc:iie:pbrief:pb08-8
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    File URL: https://piie.com/publications/policy-briefs/financial-repression-china
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. The Yin and the Yang of Shadow Banking in China
      by Steve Cecchetti and Kim Schoenholtz in Money, Banking and Financial Markets on 2014-09-08 17:38:23

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    Cited by:

    1. Xu, Cheng-Gang, 2017. "Capitalism and Socialism: Review of Kornai's Dynamism, Rivalry, and the Surplus Economy," CEPR Discussion Papers 11866, C.E.P.R. Discussion Papers.
    2. Kahrl, Fredrich & Roland-Holst, David & Zilberman, David, 2013. "Past as Prologue? Understanding energy use in post-2002 China," Energy Economics, Elsevier, vol. 36(C), pages 759-771.
    3. Eswar S. Prasad, 2011. "Rebalancing Growth in Asia," International Finance, Wiley Blackwell, vol. 14(1), pages 27-66, April.
    4. He, Dong & Wang, Honglin, 2012. "Dual-track interest rates and the conduct of monetary policy in China," China Economic Review, Elsevier, vol. 23(4), pages 928-947.
    5. repec:taf:jocebs:v:15:y:2017:i:4:p:325-352 is not listed on IDEAS
    6. Gauvin, Ludovic & Rebillard, Cyril, 2013. "Towards Recoupling? Assessing the Impact of a Chinese Hard Landing on Commodity Exporters: Results from Conditional Forecast in a GVAR Model," MPRA Paper 65457, University Library of Munich, Germany.
    7. Yang Jiang, 2015. "Vulgarisation of Keynesianism in China's response to the global financial crisis," Review of International Political Economy, Taylor & Francis Journals, vol. 22(2), pages 360-390, April.
    8. Seghezza, Elena & Morelli, Pierluigi & Pittaluga, Giovanni B., 2017. "Reserve accumulation and exchange rate policy in China: The authoritarian elite's aim of political survival," European Journal of Political Economy, Elsevier, vol. 47(C), pages 163-174.
    9. Reinhart, Carmen M. & Reinhart, Vincent & Tashiro, Takeshi, 2016. "Does reserve accumulation crowd out investment?," Journal of International Money and Finance, Elsevier, vol. 63(C), pages 89-111.
    10. Mark M. Spiegel, 2012. "Developing Asian Local Currency Bond Markets: Why and How?," Chapters,in: Implications of the Global Financial Crisis for Financial Reform and Regulation in Asia, chapter 11 Edward Elgar Publishing.
    11. Guilhem Fabre, 2009. "The Twilight of �Chimerica�? China and the collapse of the American model," Working Papers 2009_06, Department of Economics, University of Venice "Ca' Foscari".
    12. Dong He & Honglin Wang & Xiangrong Yu, 2015. "Interest Rate Determination in China: Past, Present, and Future," International Journal of Central Banking, International Journal of Central Banking, vol. 11(4), pages 255-277, December.
    13. Dong He & Honglin Wang, 2013. "Monetary Policy and Bank Lending in China - Evidence from Loan-Level Data," Working Papers 162013, Hong Kong Institute for Monetary Research.
    14. Aizenman, Joshua, 2015. "The internationalization of the RMB, capital market openness, and financial reforms in China," BOFIT Discussion Papers 4/2015, Bank of Finland, Institute for Economies in Transition.
    15. Pang, Ke & Siklos, Pierre L., 2016. "Macroeconomic consequences of the real-financial nexus: Imbalances and spillovers between China and the U.S," Journal of International Money and Finance, Elsevier, vol. 65(C), pages 195-212.
    16. Akhand Akhtar Hossain, 2015. "The Evolution of Central Banking and Monetary Policy in the Asia-Pacific," Books, Edward Elgar Publishing, number 14611.
    17. Chenggang Xu, 2017. "Capitalism and Socialism: A Review of Kornai's Dynamism, Rivalry, and the Surplus Economy," Journal of Economic Literature, American Economic Association, vol. 55(1), pages 191-208, March.
    18. M. Albert & C. Jude & C. Rebillard, 2015. "The Long Landing Scenario: Rebalancing from Overinvestment and Excessive Credit Growth. Implications for Potential Growth in China," Working papers 572, Banque de France.
    19. Chen, Donghua & Jiang, Dequan & Yu, Xin, 2015. "Corporate philanthropy and bank loans in China," Pacific-Basin Finance Journal, Elsevier, vol. 35(PA), pages 402-424.
    20. Joshua Aizenman, 2015. "Internationalization of the RMB, Capital Market Openness and Financial Reforms in China," Pacific Economic Review, Wiley Blackwell, vol. 20(3), pages 444-460, August.

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