China Should Consider Raising Rates, World Bank’s Kuijs Says

Bloomberg | November 24, 2009 | 04:23 EST

China should consider raising interest rates to help prevent excessive liquidity in the financial system from creating asset-price bubbles, World Bank economist Louis Kuijs said. The “pros of higher interest rates seem to outweigh the cons,” the lender’s senior Beijing-based economist said in an e-mailed note today. The comments were first posted on his blog on the World Bank’s Web site on Nov. 19. Unprecedented lending by Chinese banks and a benchmark one- year lending rate at a five-year low of 5.31 percent have helped to fuel the nation’s economic rebound this year. The loose fiscal and monetary policies could lead to an asset bubble similar to Japan’s in the 1980s, according to BNP Paribas.

“Some are reluctant to tighten monetary policy because of low inflation, the traditional trigger for monetary policy action,” Kuijs said. “However, the recent global financial crisis has shown the dangers of neglecting asset-price increases in monetary and financial policy making.” In countries where capital inflows are a big problem, interest-rate increases may be counter-productive because extra money from       abroad outweighs the impact on domestic liquidity, the economist said. That’s not the case in China, where “the role of capital inflows compared to domestic liquidity creation is smaller than many think,” he added. “In the first half of 2009 net financial capital inflows were equivalent to 3.3 percent of domestic credit creation,” the economist said.

Raising Capital

China’s government encouraged a $1.3 trillion credit boom this year to complement it’s monetary and fiscal stimulus plans. The nation’s five largest banks have submitted plans to regulators for raising money after this year’s lending eroded their capital, according to four people with knowledge of the matter. Industrial & Commercial Bank of China Ltd., China Construction Bank Corp., Bank of China Ltd., Agricultural Bank of China and Bank of Communications Ltd. told the China Banking Regulatory Commission how they can bolster capital ratios after the watchdog evaluated their finances last week, the people said.


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