An evaluation of China's monetary policy with a view to future development

Traditionally, monetarists hold on to the belief that the task of monetary policy is always to stabilize the price level, and that this is to be achieved by controlling the money supply, such that the money supply grows at the same pace as the national output. In the real world, few central banks would adhere to such a policy. In general, they prefer a more flexible approach, allowing the money supply, whether broadly or narrowly defined, to have a range of growth targets. Thus, in practice, discretion is inevitable. No real central bank would be bound by rules in a mechanistic way. While it is true that inflation may be easily get out of hand if the money supply growth exceeds output growth significantly, interpretation of what is excessive money supply growth becomes difficult in the face of important changes in institutions or exogenous changes to the prices of certain important goods. In any case reference has to be made to the existence or non-existence of room for economic growth. It is impossible to pin down a figure for money supply growth beyond which money supply growth would be clearly excessive. This paper will consider the actual conditions in China and explore how the central bank of China may avoid excessive monetary tightening and excessive monetary growth. We consider that an effective and correct monetary policy can be in place only after certain institutions are in place. Thus, sound economic reform is a prerequisite to sound monetary policy.