Thursday, July 31, 2008

Here is my latest post on RGE Asia EconoMonitor

Restructuring inside the PBOC
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Victor Shih | Jul 31, 2008

China Securities Times just reported that the PBOC will add a new department (si) in its organization to manage foreign exchange. It will be called the department of exchange rates (汇率司). At this point, its main duties will be to formulate recommendations on foreign exchange rates, monitor fx movements in and out of China, monitor world fx markets, and formulate regulations for China's own fx market. On the plus side, it shows that the organization inside the PBOC is finally catching up to the reality that exchange rates play a major part in monetary policy. I also think it makes a certain amount of sense to consolidate parts of SAFE, parts of the financial markets department (the part in charge of the interbank fx market), and parts of the monetary department together into its own department.

At this point, I can see two consequences which may or may not be good. First, this will create some bureaucratic rivalry between the monetary department, which formulates all monetary policy, with the new entity. This kind of conflict is less severe within a single agency, especially if the governor directly oversees both departments. In the Chinese bureaucracy, the minister and the vice-ministers typically each oversee a couple of departments within a ministry. It would be foolish to have different governors overseeing the monetary and exchange rates department. For example, it would not be good to have prolonged bargaining sessions on how much PBOC notes to issue in order to sterilize the latest inflows...etc. On the major issues, it's not as if the PBOC can actually decide on interest rates and exchange rates without State Council approval, so even if there is severe rivalry, it should not affect the major decisions too much.

This new department will further make SAFE a vessel of the PBOC. Under Hu Xiaolian, we already see very little autonomy in SAFE, but with the planning and policy parts of SAFE moving over to the new department, we will see even less. Of course, SAFE and its regional offices will continue to have discretion over how fx policies, especially capital control, are implemented. The one big unknown at this point is the extent to which the new department will control SAFE investment strategies. I suspect they will get heavily involved in any event.

For outside observers, we can look forward to a nice quarterly report on the fx market and fx policy, which will be great. It will also be easier to identify the big players in fx policies, since most of them will now reside in this department. The press is reporting that vice head of the monetary department Wang Yu will become the head of this new entity. We still need final confirmation on this one, however.

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