CHINA'S RESERVE REQUIREMENTS: PRACTICES, EFFECTS, AND IMPLICATIONS

Guonan Ma, Xiandong Yan and Xi Liu
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Xiandong Yan: People's Bank of China, 32 Chengfang Street, West District, Beijing, China 100800, China
Xi Liu: People's Bank of China, 32 Chengfang Street, West District, Beijing, China 100800, China

China Economic Policy Review (CEPR), 2012, vol. 01, issue 02, 1-34

Abstract: This paper examines the role of reserve requirements as a cheaper substitute for the open-market operations of the People's Bank of China (PBC) to sterilize foreign exchange interventions in recent years. China's reserve requirements have also been used to address a range of other policy objectives, not least macroeconomic management, financial stability, and credit policy. The preference for reserve requirements reflects the size of China's FX sterilization and the associated costs, in a quantity-oriented monetary policy framework faced with policy dilemmas. The PBC often finds it easier to reach a consensus on reserve requirement adjustments than interest rate decisions and enjoys greater discretion in applying this tool. The monetary effects of reserve requirements need to be explored not in isolation but in conjunction with other policy actions. Depending on the policy mix, higher reserve requirements tend to signal a tightening bias, to squeeze excess reserves of banks, to push market interest rates higher, and to help widen net interest spreads, thus tightening domestic monetary conditions. Reserve requirements, however, impose a tax burden on Chinese banks, albeit the latter seem to have passed through a significant but incomplete portion of these costs to their customers.

Keywords: Reserve requirements; sterilization tools; monetary policy; net interest margin and spread; tax incidence; Chinese economy; E40; E50; E52; E58; E60; H22 (search for similar items in EconPapers)
Date: 2012
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DOI: 10.1142/S1793969012500082

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