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Trilemma Challenges for the People's Republic of China

Author

Listed:
  • Masahiro Kawai

    (Asian Development Bank Institute)

  • Li-Gang Liu

    (Asian Development Bank Institute)

Abstract

This paper first reviews recent developments in exchange rate regimes, capital account liberalization, interest rate liberalization, and monetary policymaking in the People's Republic of China (PRC). It then observes that the PRC's monetary policy autonomy may have been reduced with falling capital control effectiveness and a rigid exchange regime that is still tightly managed against the United States (US) dollar. This hypothesis is investigated empirically using both the Taylor rule and the McCallum-like rule to test whether the PRC's money market interest rate and/or quantity of money supply are being increasingly influenced by the US interest rate or reserve accumulation. The paper concludes that there is considerable evidence suggesting diminishing monetary policy autonomy in the PRC. To regain policy autonomy, the monetary authority needs to substantially increase exchange rate flexibility of the renminbi as long as it continues to pursue capital account opening.

Suggested Citation

  • Masahiro Kawai & Li-Gang Liu, 2015. "Trilemma Challenges for the People's Republic of China," ADBI Working Papers 513, Asian Development Bank Institute.
    • Handle: RePEc:ris:adbiwp:0513
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    Cited by:

    1. Han, Xuehui & Wei, Shang-Jin, 2018. "International transmissions of monetary shocks: Between a trilemma and a dilemma," Journal of International Economics, Elsevier, vol. 110(C), pages 205-219.
    2. Feng, Ling & Le, Duong Thuy & Yuan, Fan, 2023. "Inclusion of the RMB in SDRs and the impossible trinity in China," Economic Systems, Elsevier, vol. 47(2).
    3. Georgios Magkonis & Simon Rudkin, 2019. "Does Trilemma Speak Chinese?," Working Papers in Economics & Finance 2019-01, University of Portsmouth, Portsmouth Business School, Economics and Finance Subject Group.
    4. Shang-Jin Wei, 2018. "Managing Financial Globalization: Insights from the Recent Literature," Working Papers id:12586, eSocialSciences.
    5. Peng Zhang, 2018. "Exchange Rate and Asset Market: the Trilemma for China's Monetary Policy," Review of Economics & Finance, Better Advances Press, Canada, vol. 14, pages 1-16, November.
    6. Wei, Shang-Jin & Han, Xuehui, 2016. "International Transmissions of Monetary Shocks," CEPR Discussion Papers 11070, C.E.P.R. Discussion Papers.
    7. Shang-Jin Wei, 2018. "Managing Financial Globalization: A Guide for Developing Countries Based on the Recent Literature," ADBI Working Papers 804, Asian Development Bank Institute.

    More about this item

    Keywords

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    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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