The role of the government in China’s economy needs to change: Huang Yiping

China's former central bank chief wants the market to decide interest rates.

Our briefing on key economic and financial themes in China as of Thursday, 5 December, 2024:

• The role of the government in the Chinese economy needs to change, because competition between local authorities has led to redundant investment that makes China vulnerable to overcapacity accusations, according to prominent economist Huang Yiping.

• Yi Gang, the former chief of the Chinese central bank, has stressed the need for China to forge ahead with reforms for the marketisation of interest rates.

The role of the government in China’s economy needs to change: Huang Yiping

Leading Chinese economist Huang Yiping (黄益平) says the role of the government in China’s economy needs to change, and is one of the underlying drivers for US accusations of industrial overcapacity.

Huang, currently an economics professor at Peking University, says that local governments around China still compete intensely against each for investment and economic development opportunities.

While this system has long been hailed as a key driver of China's rapid economic growth in the past, critics accuse it of causing reduplication of investment and the redundant development of industrial capacity.

"The outcome of policies for attracting business and investment is extremely severe reduplication of development in certain areas," Huang wrote in a recent opinion piece.

Huang said this was one of the key factors behind accusations of industrial overcapacity made by US Treasury Secretary Janet Yellen in April.

He further points out that China is currently host to up to ten major EV companies, each of which is backed by different local governments that are in competition against each other.

"This is significant of the twin dilemmas that China's clean energy sector faces at present," Huang wrote.

"Domestically, these goods do not appear to play a sufficient role for supporting economic growth.

"Internationally, their scale is large enough to draw concerns and competitive pressure from the international community."

Former Chinese central bank chief calls for the market to decide interest rates

Yi Gang (易纲), the former governor of the People’s Bank of China (PBOC), has called for further reforms to drive the marketisation of Chinese interest rates, in order to optimise resource allocation by the financial system.

Yi made interest rate marketisation the theme of the keynote speech that he delivered at the recent 2024 annual academic meeting of the China Financial Research Conference (CFRC).

“Interest rate marketisation is one of the core reforms for the economy and the financial sector,” Yi said during the speech.

“[It] is the cornerstone for the optimisation of the monetary policy control framework, and smoothing out paths of transmission for monetary policy.

“Interest rate levels directly impact savings and consumption by ordinary citizens, investment and financing decisions by enterprises, as well as imports and exports and the balance of payments, and thus have a broad impact on overall economic activity.

“For this reason, interest rates are a critical variable in macroeconomics, and the key to balancing aggregate supply and demand."

The three main themes of China’s interest rate reforms

According to Yi, China’s long-term interest rate reform agenda is comprised of three key themes:

• Advancing the marketisation of deposit rates, and gradually loosening deposit rate regulation.

• Advancing the marketisation of financial market interest rates. Establishing and improving the market rate system, and gradually improving the treasury yield curve.

• Driving the transparency and clarity of the central bank’s interest rate decisions, in accordance with the laws of the market.

Xi Jinping on board with interest rate reforms

According to Yi, interest rate reforms have remained at the fore of the reform agenda since the start of Xi Jinping’s third term in office in October 2022, as affirmed by the 20th National Congress of China’s Communist Party.

The report for the 20th National Congress called for “establishing a high-level socialist market system and fully employing the decisive role of the market in resource allocation.”

Xi further stressed the importance of market reforms in relation to interest rates at the Third Plenary Session of the Party’s 20th Central Committee held earlier this year - a key event for outlining economic policy themes in years to come.

The resolution produced by the Third Plenum called for “deepening financial system reforms, accelerating improvements to the central bank system, and smoothing out monetary policy transmission mechanisms.”