The PBoC has raised minimum reserve requirements for the seventh time this year, after three increases last year, from 12% to 12.5%, which is expected to drain about $25 billion from the banking system (equal, by the way, to a little more than two week’s reserve inflows). In a televised speech two days ago premier Wen Jiabao said the government needs to prevent the economy from overheating. Yesterday Zhou Xiaochuan, the PBoC governor, said in a speech that the central bank hoped to see positive real interest rates, although he also made the very reasonable comment that inflation is not just what has happened this month but must be measured over a longer period of several months.
I am not very optimistic that inflation numbers will come down dramatically in the near term, so I interpret this to mean that rates are going to go up quite a bit over the next few quarters. But here is the conundrum. If rates do go up sharply, the speculative profit from investing in China also goes up and, perhaps more importantly, the incentive for Chinese to invest abroad goes down. This measn that capital inflows are going to get worse, not better.
If you believe, as I do, that it is the monetary expansion caused by the currency regime that is at the root of China’s money problems, it is hard to see how this can possibly help. I believe the PBoC is very worried about capital inflows and the currency regime, but it is an indication of how much inflation terrifies the government that they are willing to do something that just six months ago seemed almost inconceivable – increase the incentive for speculative inflows.
I am convinced more than ever that until the government allows a rapid increase in the value of the RMB — and perhaps the least damaging way would be to engineer a sudden, maxi-revaluation of around 15% — there will be no good way of dealing with the problems. I was interviewd on CCTV’s Dialogue Thursday on the subject of inflation and one of the things both my co-guest, Tang Min, the Deputy Secretary General of the China Development Research Foundation, and I agreed is that the combination of rising inflation and previous and current excess money growth — which in the past had been deflationary thought its impact on expanding industrial production — was something new, and it wasn’t clear what impact it might have on subsequent inflation. If inflation keeps up, as I suspect it might, it may be tough for the PBopC to engineer sufficiently high positive real rates anyway; buy cheap cialis without a prescription.