China urged to hike interest rates

03/05/2010 | Sid Verma and Anthony Rowley

A leading member of China’s monetary policy committee has called on authorities to raise interest rates to cool an overheating economy – as the People’s Bank of China moved Sunday to hike bank reserve requirements, while leaving benchmark rates unchanged

A leading member of China’s monetary policy committee has called on authorities to raise interest rates to cool an overheating economy – as the People’s Bank of China moved yesterday to hike bank reserve requirements, while leaving benchmark rates unchanged.

PBoC monetary policy committee member Li Daokui told Emerging Markets that higher interest rates are needed to combat inflation and prick the bubble in China’s high-end property market.

“Higher inflation and low interest rates are eroding Chinese savings in bank deposits and encouraging Chinese people to buy more property, worsening the bubble problem,” Li said in a telephone interview.

But finance minister Xie Xuren warned that China’s economic recovery remains on shaky ground, and added that authorities would continue to stimulate domestic demand by fiscal means.

“The foundation of the economic turnaround is not solid, so we will continue fiscal stimulus,” Xie said yesterday in Tashkent. China’s policymakers have resisted unwinding stimulus measures until the global economic recovery is well entrenched.

The PBoC, headed by governor Zhou Xiaochuan, said in a notice on its website that the reserve requirement ratio for banks would be raised by 50 basis points from May 10. This attempt to rein in new lending came amid fears of a property bubble and economic overheating.

Li, economics professor at Tsinghua University and one of three academics who replaced monetary policy committee member Fan Gang at the end of March, stressed that any imminent tightening of interest rate policy does not represent the central bank’s official stance. But although the PBoC does not set interest rates, such comments from a monetary policy official carry weight in Beijing.

Li also noted higher interest rates would be “helpful” in reducing inflation expectations. Markets predicted in January that the PBoC would hike rates in the second quarter of the year.

In March, consumer prices rose 2.4% year-on-year, a rate higher than the 2.25% interest rate on one-year certificates of bank deposits. Real interest rates are projected to hit minus 0.5% over the next year.

To date, China has relied on regulation to curb excesses in the high-end housing market in the so-called tier one cities, principally Beijing and Shanghai. Property prices there rallied by between 50% and 100% last year, Morgan Stanley’s China strategist, Jerry Lou, said. This was partly fuelled by misdirected bank loans, he said.

The government last week ordered developers to submit fund-raising plans for review, in order to stem speculative property developments. These measures come on top of stricter limits on bank lending for property investment as part of the government’s much-publicised bid to prick the real estate bubble.

Li also said the government should introduce a nationwide property tax, step up punitive taxes on those with more than one home, restrict property purchases in a given municipality to local residents or workers, and build more state-backed housing for young workers. These measures would reduce speculative real estate investments.

Li said it was “absolutely essential” to develop the mutual fund industry and corporate bond market, to provide an outlet to soak up excess Chinese savings and curb asset price bubbles.

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