OREANDA-NEWS. March 18, 2011. Recently, Xiao Gang, Chairman of Bank of China, accepted the exclusive interview of People's Daily. This exclusive report was published in People’s Daily, reported the press-centre of Bank of China.

The full text is as follows:

What’s the economic trend for the next period? How to carry out prudent monetary policy? In which direction should marketization of the interest rate and exchange rate reform move forward? How will real estate market and stock market develop? Before the coming "Two Conferences" (the National People's Congress and the Chinese People's Political Consultative Conference), Chairman of Bank of China, Xiao Gang,accepted the exclusive interview of the reporter from People's Daily:

Six Hotspot Questions on Finance and Economics by Tian Junrong,  People's Daily

1. Economic Growth
The economic growth will slow down, and the downside risk of economy can't be completely ruled out

Reporter: Currently, there is a popular view that 2011 is the first year of the "Twelfth Five-Year Plan", people in all places of China are in high spirit for economic development, and the momentum for economic growth is sufficient, so there is no downside risk of economy. What's your opinion on the issue?

Xiao Gang: Frankly speaking, this is only one aspect of the issue, and it is not necessarily in line with the actual situation in the future, because many such analyses are made on the background of excess liquidity and increase of credit scale in recent years. In this year and a period in the future, China's economy will be characterized by "economic growth slowing down, and inflationary pressure increasing", and the downside risk of economy still can’t be completely ruled out.

For a period in the future, the prospect of global economic recovery is not clear, the speed of RMB appreciation accelerates, factor cost rises and base number increases, all these factors will make it very hard to maintain export’s rapid growth. High inflation expectation, and policy adjustment such as real estate regulation and control automobile purchases and subsidy program for home appliance in rural areas will make the actual consumption growth rate slow down to an extent. The most important thing is that China's economy is still of "credit loan thirsty disease" type, which relies increase in investment, for example we input a great quantity of credit loans to support economic growth. With the monetary policy's recovering to a regular situation, the growth rate of investment will slow down.

Recently, there is a strange phenomenon in the market: on the one hand, people say there is an excess liquidity and there is too much money in the market; on the other hand, enterprises and banks begin to feel the pressure of financial strain.

One important reason for the financial strain is that in the past two years many projects' scales are too large and too many projects are started. The constructions of these projects are still not completed, and they can't produce profit, so there is no cash flowing-back, and more money is needed to continue the construction, while new projects are waiting for being started. In another word, there is only money that is put in, but there is no money taken back, so it's certain that money is insufficient. In addition, interest rate will probably increase in the future, and the capital will be more valuable, so in the period of the next two or three years, many places and enterprises will probably undergo a hard time of "shortage of money". Therefore, although all the places are highly enthusiastic in economic development, with the monetary policy's returning moderate, the funds will become more and more strained and the investment growth rate will be obviously restricted.

2. Inflationary Pressure
We should be tolerant of commodity price increase range, and prevent stagflation before it is late to do so

Reporter: In the future, there are many factors that drive prices to rise, and the upward risk of prices should not be neglected.

Xiao Gang: That's right. Under the context of sufficient liquidity, with the economy gradually becoming stable and recovering, it is easy to form a persistent inflation expectation. Meanwhile, with the acceleration of the reform of factor prices, the cost of land, capital and other factors will rise unceasingly, and input-type factors also influence the economy, so we can predict that the inflationary pressure will be big in the next several years.

We should maintain the overall prices basically stable, but it does not mean that the lower the prices are, the better the economy is. We should be tolerant of price increase rate of 4% to 5%.This is because during the "Twelfth Five-Year Plan" period, China will quicken the transformation of economic development pattern and take this transformation as the main line, and this situation requires us to handle the relation between administering inflation expectation and regulating economic structure well.Moderate price rise is helpful for economic restructuring and development pattern transformation. For example, the moderate price rise of agricultural and by-products will influence price index, but farmers are benefited from this rise, and it is also in favor of increasing consumption and enlarging domestic demand; another example is that salary rise will also increase the inflationary pressure, but it is also in favor of increasing people’s income and consumption as well as enlarging domestic demand.

Reporter: According to your analysis, there is any possibility of stagflation in the future?

Xiao Gang: It is reasonable that economic growth slows down slightly and the inflationary pressure is a little bigger. However, if it is excessive, the inflation will happen. From now on, we should take measures of macroeconomic policy before the inflation emerges.

In my opinion, in order to avoid stagnation, the orientation of macroeconomic policy shall be as follows: playing equal emphasis on demand management and supply management, and tightening demand while expanding supply. Tightening demand means carrying out a prudent monetary policy to suppress the too fast expansion of overall demand. Expanding supply means enlarging and improving supply by tax deduction, increasing input in people's livelihood area and human capital accumulation, improving management and promoting technology progress, etc.

3. Monetary Policy
Interest rate at least can rise to the level that the effective interest rate is a positive value, and it is estimated that the credit loan objective of this year is around RMB 7 trillion

Reporter: Since the beginning of this year, the central government has taken edge tools frequently, and monetary policy instruments, such as deposit reserve ratio and interest rate, are all utilized. In your opinion, how will these instruments be used in the future?

Xiao Gang: From my point of view, there will be little room for continual increase of deposit reserve ratio.After eight times of increase since last year, the funds of small and medium-sized banks has already been tightened, and some large banks are also facing the shortage of funds.If the ratio is increased again substantially, a liquidity reversion will be caused, which will impact the financial system with negative effects.

There is still some room for interest rate rise. A moderate rise of interest rate is helpful for controlling the inflation and maintaining banking system stable. But if it rises excessively, it will influence the repaying capability of the people buying houses on loan, enterprises and local government financing platforms. Interest rate can rise to the level that the effective interest rate is a positive value, as a long-term negative interest rate is very harmful.

Reporter: According to your judgment, what's the expected credit objective in 2011?

Xiao Gang: In this year, the credit scale has been abandoned. Usually, credit increase rate is a little higher than the sum of GDP increase rate and CPI increase rate, reaching 19.9% last year. In consideration of the fact that the moderately easy monetary policy has become a prudent one, the increase rate should drop a little in this year, and according to preliminary estimation, the newly increased credit scale of the whole year will reach about RMB 7 trillion.

4. Financial Reform
Marketization of interest rate can play an important supplementary role to interest rate increase, and the elasticity of exchange rate should be strengthened slightly and gradually.

Reporter: Do you think the reform of interest rate marketization will make a great progress during the "Twelfth Five-year Plan" period?

Xiao Gang: Since its being put forward and started in the 1990s, the reform of China's interest rate marketization has passed by ten years, and on the whole the reforming steps of "foreign currency before domestic currency, loan before deposit" are adopted, which meets the actual situation.

I agree to the following views: the marketization of interest rate should be carried forward, lower limit of lending interest rate can be abandoned, and the upper limit of deposit interest rate should be loosened step by step, and during this course, the upper limit of wholesale and medium and long-term deposits can be loosened firstly, and that of short-term ones can not be loosened at random, otherwise the market will be messed up.In addition, we should choose financial institutions with strong self-restraint capability as pilots to carry forward the reform, and prevent the phenomenon that some institutions attract deposits through high interest rate, as this method only seeks temporary relief regardless of the consequences.

The "Twelfth Five-year Plan" period is a good opportunity for carrying forward the reform of interest rate marketization. In the present environment of low interest rate and intense competition, banks adopt various marketing measures to attract deposit. It demonstrates that benchmark interest rate does not reflect actual market interest rate level, and promoting the marketization of interest rate can play its important role to interest rate increase.

Reporter: China's import increases greatly, quite a few of the imported commodities are bulk commodities such as iron ores and crude oil, and the commodities prices rise continuously in the international market.Do you think we should further strengthen the elasticity of RMB exchange rate to reduce the pressure of input-type inflation in 2011?

Xiao Gang: As the price ratio of two countries' currencies, exchange rate is also a kind of price. The fundamental role of market supply and demand in the formation of exchange rate shall be strengthened. China's economic strength is increasing, and RMB's remaining stable should be the irresistible trend. Of course, we can not increase the RMB exchange rate substantially once only, as neither enterprises nor the economy can withstand it. So we should increase the elasticity of exchange rate slightly and gradually.

5. Real Estate Regulation and Control
Increase of lending interest rate for the first suite does exist, and the effect of real estate regulation and control is waiting for our observation

Reporter: Recently, a good few commercial banks have canceled preferential interest rates for loans for the first suite. Someone said that this behavior does not embody the differentiated housing credit policies, and it fails to support the first suite purchase and the demand for self-use.

Xiao Gang: Currently, the Bank of China's requirement of price-fixing for the first home loan is that the rate of it should not be lower than 15% discount of the benchmark interest rate. Since this year, because of the more tight credit scale and the increase of interest rate of deposit, the cost of loan fund increases. The phenomena of 10% discount of price-fixing of interest rate of the first home loan and migration of benchmark interest rate exist in some branches of Bank of China according to the local overall situation of this industry and market. For the second suite, Bank of China carries out the standard that the down payment should not be less than 60% of the benchmark interest rate while the lending interest rate should not be less than 1.1 times of it.For the third suite, personal loans are suspended. It should be spoken that we insist on the differentiated housing credit policies. Compared with the second suite, the first suite loan enjoys some preferences, but its preferential range is not as large as the original one.

Reporter: Since the beginning of this year, China has put forward a new round of real estate regulation and control policies, then how do you think of the trend of real estate in this year?

Xiao Gang: In regard of house price, at the present time there are some downside and upward factors.It's reported that, during the Spring Festival, the number of people buying houses in Hong Kong from mainland China increased greatly, and the number of houses bought in Hong Kong increased one time compared to that of the same period of last year. This situation shows that the speculation or investment demand began to flow out after they were restrained in the mainland. After the regulation and control policies have been put forward, the turnover in first-tier cities decreased sharply, while that of the second- and third- tier cities rose. Some foreign capital regards that the existing regulation and control policies are hard to continue persistently, so the foreign capital flows into real estate field increasingly. In addition, developers begin to take no or few new lands to prepare for the shortage of fund in the future, which will lead to the decrease of supply of middle and high level houses. In this way, "Land-based Finance" may be influenced, and the local governments and banks will all face a big pressure. After all the amount of loans on real estate of the banks reach 30% of its total amount. Therefore, we will continue to observe the effect of the regulation and control policies.

6. Trend of Stock Market
In this year there probably will be no great trend, but some structured opportunities in the phrasal sense

Reporter: Last year, China's economy operated well, but A-share market was not so good. What will be their performances in this year?

Xiao Gang: In 2011 there probably will be no great trend in the domestic capital market, and it probably will be an undulant market. But there are some structured opportunities in the phrasal sense, and we more need the strategy of careful selection and making decisions by watching the chances.

Inflation is a double-edged sword, as when it brings about risks, it also provides us some investment opportunities, and seen from history data some concerned industries with bargaining power can enjoy over-evaluated value.In addition, with the preferential policy and its support, the emerging strategic industries will have more room for imagination and more investment subjects.