Academic journal article Economic Review - Federal Reserve Bank of Kansas City

China's Economic Growth with Price Stability: What Role For

Academic journal article Economic Review - Federal Reserve Bank of Kansas City

China's Economic Growth with Price Stability: What Role For

Article excerpt

I am honored to have the opportunity to address such a prestigious group on the matters of economic growth, price stability, and the role of central banks, particularly as they relate to the role of the People's Bank in China. I am especially pleased to be here since it was only two years ago that I visited the People's Republic of China, and I have developed a keen interest in the economic reform process in this critically important nation.

As I think about recent and prospective economic developments in China, I am not overstating matters when I say that the People's Bank is critical to the success of Chinese economic reforms. Since the reform process began in 1978, the Chinese economy has grown at an average annual rate of almost 9 percent. This is an enviable growth rate, and in my view its continuation relies importantly on an ongoing commitment by the People's Bank to maintain financial stability.

Despite dissimilar political and social systems, the emerging market economy in China and the more highly developed market economy in the United States must, by definition, ultimately function in similar fashions. In this context, the Federal Reserve System's experience in working within a rapidly changing, geographically diverse economy--its experience in balancing the pursuit of ambitious growth objectives against the dangers of inflation--may provide useful guidance to the People's Bank of China as it must now also confront these challenges in a more market-oriented environment.

As with central banks in most industrialized countries, a fundamental objective for the People's Bank is to have monetary and regulatory policies that contribute to financial stability and promote strong, consistent economic growth. Without stable, consistent growth, the market reform process in China cannot achieve its potential in improving the standard of living for the Chinese people.

I realize this is a rather broad statement, so let me cite more specifically four principles that I believe are critical to a central bank's long-run success.

The first principle I would list is not the most obvious, but it is critically important. It does not focus on any one policy tool but rather on the fact that in fast-changing financial markets, a central bank's varied functions are importantly interrelated and must be carefully managed and coordinated in pursuing financial stability. For example, the Federal Reserve, like the People's Bank, not only conducts monetary policy but has a significant role within the payments system and is involved in supervising commercial banks. The Federal Reserve, moreover, is a participant in some of the world's most important securities markets and is keenly aware of and, to a degree, involved in foreign exchange markets. The coordination of its involvement in these activities is important to the efficient functioning of a sophisticated economic and monetary system.

Often, these multiple functions are thought of in isolation, as if they had separate and distinct purposes. When inflation is held in check, when financial markets are operating smoothly, and when financial institutions are in sound condition, the various functions seldom seem to touch one another. But in times of crises their ties to one another become critical and all too apparent. Only when one or another function is out of balance do we realize how critically important that one is to the others.

A dramatic example of the significance of the linkages among central bank functions is the U.S. stock market crash in October of 1987. Concern about U.S. inflation and uncertainty about global macroeconomic policies contributed to the erosion of confidence that started the initial wave of selling of shares in the stock market. Computerized sell programs so increased the volume of sales that funds could not be transferred rapidly enough through the payments system to clear the transactions. Because of the resulting confusion and uncertainty, commercial banks were reluctant to serve their traditional role of providing liquidity to securities firms. …

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