Hong Kong / Beijing: China’s monetary policy may be overwhelmed by inflows of speculative capital and the nation needs greater exchange-rate flexibility to make sure that doesn’t happen, the World Bank said.
“China is too large an economy not to have an independent monetary policy,” Louis Kuijs, acting chief economist for China at the World Bank, said at a briefing on Thursday on the Washington-based lender’s quarterly report on China. “To have that you need more exchange-rate flexibility.”
Trade surplus, foreign direct investment and inflows of capital from investors betting on currency gains are flooding the fastest-growing major economy with cash that threatens to fuel inflation. Its foreign exchange reserves may rise to a record $1.8 trillion (Rs77.22 trillion) by the end of 2008, trade minister Chen Deming said on Wednesday.
“So far China’s monetary policy has not yet been overwhelmed by these inflows,” said Kuijs. “It would not be wise to assume that these problems will never overwhelm policymakers.” The World Bank raised its forecast for China’s inflation to 7% this year from a February estimate of 4.6%. China’s economy will grow 9.8%, more than previous estimate of 9.6%, it said, citing government revisions to data on the size of the service sector’s contribution to growth.
Current-account surplus, the gap for trade in goods and services, rose 49% in 2007 from a year earlier to $372 billion. Consumer prices rose 7.7% in May after reaching a 12-year high of 8.7% in February. China is trying to tame prices without triggering a slump. The central bank has ordered banks to set aside a record proportion of deposits as reserves, sold bills and allowed the yuan to gain 6.2% versus the dollar this year. A stronger currency can trim import costs and the inflow of cash from exports by making goods more expensive and less appealing. The World Bank advocated more yuan gains.
China hasn’t moved on interest rates this year, after six increases in 2007, because of US cuts to borrowing costs. A widening of the gap between the two countries’ rates may attract more capital inflows, stoking inflation. The central bank has asked commercial lenders to set aside more deposits five times this year, bringing the ratio to 17.5% from 25 June.
China’s economy expanded 10.6% in the first quarter as global growth weakened and the worst snowstorms in half a century disrupted production and transport. “The growth moderation in part reflects less buoyant investment, but China’s domestic economy is holding up,” the lender said. The 12 May earthquake would likely have a “modest” impact on economic growth, the World Bank said.