Better use of financial muscle

Giving its huge reserves and assets a bigger role in developing the real economy is a pressing and crucial task for the country

China has achieved remarkable progresses in the financial realm since reform and opening-up was initiated in 1978, and its foreign reserves, central bank assets and domestic savings all rank first in the world.

However, how to cultivate a self-growing financial vitality, develop itself from an economic power to a financial power and give its huge financial assets a bigger role in the development of the real economy are pressing and demanding tasks for the country's decisions-makers.

In the context of the country's huge financial achievements, domestic financial institutions have made substantial improvements in terms of their capital adequacy ratio, governance capabilities and the level of earnings. The country's central bank assets were 28.6 trillion yuan ($4.73 trillion) by the end of October, much higher than the $2.85 trillion held by the US Federal Reserve, $2.73 trillion by the European Central Bank and $1.8 trillion by the Bank of Japan. China is also among the countries with the highest deposit ratio, with the total value of its various forms of deposits exceeding 80 trillion yuan.

Nevertheless, such outstanding performances do not alter the fact that China still has a long way to go before it develops into a financial power. So a comprehensive financial strategy should be laid out to optimize the country's established financial system and promote its financial transformation so that it is commensurate with its ongoing economic transformation.

Despite its huge financial and capital fluidity, a large number of China's small and medium-sized enterprises have been struggling to survive a funding insufficiency. This has been largely caused by the unreasonable distribution of resources as the result of the country's extensive economic development model and its dysfunctional interest rate facilities.

An outstanding problem facing China's financial system lies in the country favoring the development of capital-intensive industries, such as manufacturing and infrastructure, which possess the advantage of huge fixed assets to attract loans, at the expense of the high-tech and service sectors. Thus, a package of sweeping macro and structural reforms should be introduced to promote the unblocked and impartial flow of the country's huge fluidity to different sectors, especially those that have difficulty accessing loans.

A financial transformation that is proportionate to the country's ongoing economic transformation will help its financial sector gain greater vitality and efficiency. The adoption of a capitalization strategy favoring scientific and technological innovation will result in the financial sector playing a bigger role in the real economy. As a way to establish a pro-innovation financial system, the nation should increase its fiscal input, including input into research and development, and establish a risk fund for industrial start-ups, as well as high-tech funds and market financing, in an bid to offer greater financial support to the development of an innovative economy.

China should also set up a banking system to serve small and medium-sized enterprises, a practice that has proved successful in countries such as France, Canada and South Korea that have established government-funded financial bodies to provide small businesses with loans. The creation of such banks in China will give domestic fund-lacking enterprises greater access to loans.

China has so far acquired more than 30 percent of the world's total reserve assets. By the end of June 2011, its foreign reserves amounted to $3.19 trillion, an increase of 30.3 percent year-on-year. This was triple that of Japan, the world's second largest reserve holder, and was almost as much as Germany's full-year GDP, which is the fourth largest economy in the world. However, the country's investment into long-term US government bonds has a relatively low return ratio of 3 to 5 percent. In comparison, foreign direct investment in China has gained an annual average return of 20 percent. Such a huge disparity makes it necessary for China to review the current management model of its enormous foreign financial assets.

China should try to shift its investment preference from the government debt of developed countries to their stocks and shares in a bid to boost the wealth-remaking capabilities of its reserve assets and to facilitate the development and expansion of its real economy overseas.

The author is an economist with the State Information Center.

(China Daily 01/13/2012 page8)