The effectiveness of monetary policy in China: Evidence from a Qual VAR

Hongyi Chen (), Kenneth Chow () and Peter Tillmann
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Hongyi Chen: Hong Kong Institute for Monetary Research
Kenneth Chow: Hong Kong Monetary Authority

No GRU_2016_022, GRU Working Paper Series from City University of Hong Kong, Department of Economics and Finance, Global Research Unit

Abstract: Analyzing monetary policy in China is not straightforward because the People's Bank of China (PBoC) implements policy by using more than one instrument. In this paper we use a Qual VAR, a conventional VAR system augmented with binary policy announcements, to extract a latent indicator of tightening and easing pressure, respectively, for China. The model acknowledges that policy announcements are endogenous and summarizes policy by a single indicator. The Qual VAR allows us to study the impact of monetary policy in terms of unexpected changes in these latent variables, which we identify using sign restrictions. We show that the transmission of monetary policy impulses to the rest of the economy is similar to the transmission process in advanced economies in terms of both output growth and inflation despite a very different monetary policy framework. We find that bank loans are not sensitive to policy changes, which implies that window guidance is still a necessary policy tool. We also find that the impact of monetary policy shocks is asymmetric in terms of asset prices, that is, the asset price reactions differ in their sensitivity to tightening shocks and easing shocks, respectively. In particular, an easing of monetary conditions boosts stock prices while a tightening shock leaves stock prices unaffected. This shows that monetary policy is not a suitable tool to stabilize asset prices, which raises implications for financial stability and macroprudential policy.

Keywords: China; monetary policy; Qual VAR; transmission mechanism; asset prices; financial stability (search for similar items in EconPapers)
JEL-codes: C3 E4 E5 (search for similar items in EconPapers)
Pages: 34 pages
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Published in China Economic Review, Volume 43C, Pages 216-231

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https://www.cb.cityu.edu.hk/ef/doc/GRU/WPS/GRU-%20022%20CCT.pdf (application/pdf)

Related works:
Journal Article: The effectiveness of monetary policy in China: Evidence from a Qual VAR (2017)
Working Paper: The Effectiveness of Monetary Policy in China: Evidence from a Qual VAR (2016)
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