Tuesday, November 27, 2007

Well, macroeconomic policy is in the air. Caijing just reported on a lending freeze being imposed on a few state-owned banks, including the generous State Development Bank. Goldman Sachs economist Hong Liang reasons that lending freeze is necessary because the 3% "safety zone" interest rate spread between the US and China is being breached by recent US rate cuts and Chinese rate increases. This provides strong incentive for hot money to flow in and thus, requires strong measures like lending freeze. I don't think this is exactly right. The government is using lending freeze because IT IS THE ONLY THING THAT WORKS in China during over-heating. THIS IS WHAT THEY HAVE ALWAYS USED. In fact, monetary instruments like interest rates and reserve requirements HAVE NEVER BEEN EFFECTIVE until arguably the 2004 monetary cycle. Even then, the government had to resort to lending freeze and political blackmail. I include excerpts from my book FACTIONS AND FINANCE IN CHINA explaining the dynamics of lending freeze in the 1994 inflationary cycle.

From Factions and Finance in China: Elite Conflict and Inflation
Victor C Shih
Cambridge University Press

Former Prime Minister Zhu Rongji "...began to reveal his anti- inflationary preference in the spring of 1993. The break came when Li Peng suffered a heart attack and was hospitalized in April, which made Zhu the acting premier. At the end of May, Chen Yun returned to Beijing to coordinate retrenchment one last time (Document Research Center of the CCP CC 2000). With Li Peng in convalescence and Yao Yilin gravely ill, Chen relied on Zhu to carry out the retrenchment. Soon after Chen’s return, Zhu Rongji held an emergency meeting on the economy at the Fengtai Hotel in Beijing, where he invited numerous veteran state planners to provide him political support (Brahm 2002: 17). To the astonishment of his audience of central and local officials, Zhu first announced that the current PBOC governor Li Guixian – a Li Peng loyalist – would be removed from his post, replaced by Zhu himself. Second, Zhu issued the “Sixteen Measures” (shiliu tiao) to constrain inflationary pressure, anchored by strict limits on fixed asset investment, real estate development, lending, the flow of foreign exchange, and the issuance of securities (CCP Central Committee and State Council 1999; Li 1994b). The Sixteen Measures also called for a crackdown on illegal financial institutions and the re-centralization of relending authorities to the PBOC headquarters (Chen 2000b: 553). Most astonishingly, Zhu ordered bank managers to forcefully recall all “irregular loans” to enterprises and 50% of such loans to non-bank financial institutions by 15 August, barely two months from the time of the meeting (Zhu 1999). If Zhu’s centralizing tendency had been in doubt, the Fengtai meeting conclusively put these doubts to rest."

My book also points out that lending freezes don't work all the time; it really depends on the political clout of the lead technocrat:

"Given the mixed signals emanating from the central leadership, it was not surprising that the Sixteen Measures were met with stiff local resistance. In July 1993, the State Council sent out seven work teams to determine the amount of irregular loans in twenty provinces and to ensure that local banks were earnestly recalling these loans before the 15 August deadline. However, the work teams had to contend with recalcitrant local officials in many places. In one case, the local government shut down all the banks, causing depositors to stage large-scale protests, which forced Zhu to give additional liquidity to the province to preserve social stability (Chen 2005: 277). In other cases, work-teams could not find the provincial leadership, who were “out on inspection,” which paralyzed the work teams’ progress (Chen 2005:277). Furthermore, even after the issuance of the 16 Measures, local governments continued to pressure banks for generous loans (Zhu 1999). Strong-arm tactics had allowed Zhu to solve the triangular debt problem quickly in 1991. Nonetheless, Zhu’s earlier effort with triangular debt had enjoyed Deng’s support; these retrenchment measures were subverted by Jiang. According to the Hong Kong press, the PBOC was only able to collect 1/3 of all irregular loans by mid August. Guangdong only recovered 40 percent of the loans, while Hainan collected 50 percent (Lam 1995). "

Work teams, sounds familiar? Wen Jiabao is sending out these work teams to inspect real estate development--good luck!

Comments: Post a Comment

This page is powered by Blogger. Isn't yours?