As of November 2012, the People’s Bank of China had total assets of $4.8 trillion, more than the European Central Bank or the Federal Reserve. The PBOC now supplies more than half the world’s total liquidity and manages foreign reserves worth almost $3.3 trillion.
Increasingly, the PBOC has become an international lender of last resort, particularly as European politicians try to persuade the Chinese to buy their bonds. No wonder that Zhou Xiaochuan, the bank’s governor, has been dubbed “the world’s central banker,” a man whose statements can move global markets.
It’s hard to believe that just three decades ago the PBOC was only a minor institution in the labyrinthine Chinese bureaucracy. Its ascension is a story of turbulent economic transition, skillful leadership and, above all, deft political strategy. And its most significant challenges may still lie ahead.
After the communist revolution, the PBOC was formally founded in 1949 as a national bank, authorized as the center of cash, clearing and credit to serve the Chinese economy.
In the 1950s, the PBOC became the only major bank in China, a universal system that performed rudimentary central-baking and retail functions. But it was marginalized by the financial repression and bureaucratic hierarchies of China’s command economy. From 1958 to 1962, the PBOC’s branches were merged with local government treasuries, and from 1968 to 1977 its head office of only 80 staff members operated as a minor department within the finance ministry. The bank was nothing but a bookkeeper, cashier and mint-master.
After Deng Xiaoping initiated a period of economic reforms starting in 1978, the PBOC gradually became China’s most important macroeconomic management agency. The emerging market and a rapid expansion of international exchanges demanded sophisticated financial intermediation that the PBOC’s universal system was unable to provide.
The PBOC gained independence from the finance ministry in 1979, and as a series of state banks were resurrected to engage in commercial business its role in the new system became a hotly debated question. After lengthy internal arguments, its status as China’s central bank was officially confirmed in 1983 and its commercial-banking businesses were given to the other state banks.
Inflation crises in the 1980s and early 1990s led reform-minded elites to push the PBOC to maintain price stability via the Central Bank Law of 1995. The law said that “The aim of monetary policies is to maintain the stability of the value of the currency and thereby promote economic growth.”
The central government also restructured the bank’s regional branches, giving them increased autonomy from provincial governments, which had traditionally been a source of investment-driven inflation. After central financial planning was phased out in 1998, the bank sought to modernize its monetary-policy apparatus and developed closer ties with the international community.
More important, PBOC leaders forged political ties with reformist party leaders, particularly Zhu Rongji, who had been the governor of the PBOC from 1993 to 1995 and went on to become premier in 1998. Zhu lacked broad support in the central government, but the PBOC provided policy and bureaucratic backing on a range of issues.
The PBOC thus won increased authority by becoming an indispensable ally for the reformist political leadership. Under Zhu’s leadership, the bank had engineered a soft landing in 1996 after a bout of high inflation (peaking at 24 percent in 1993), and won major arguments following the Asian financial crisis, especially in pursuing a strategy of non-devaluation.
With its new authority, the PBOC began to flex its muscles in the 2000s, particularly under the governorship of Zhou Xiaochuan, an economist with intimate ties to the political leadership. Although the party still exerts control over the financial sector, the bank has been exploring new, more market-oriented instruments and mechanisms within its discretion to establish a credible monetary policy and maintain price stability.
From 1979 to 1994, economic growth averaged 10.1 percent while inflation averaged 7.7 percent. From 1995 to 2011, economic growth averaged 9.9 percent while core inflation fell to an average of only 3.1 percent. This track record gave the PBOC greater authority and room for maneuver in macroeconomic management.
The PBOC also played a central role in liberalizing China’s exchange rate in 2005 and again in 2010, despite mounting internal resistance. Recognizing the importance of a sound banking sector for carrying out monetary policy, the central bank also took the lead in recent banking reforms aimed at improving corporate governance and market discipline. Under Zhou, the bank has also been active in reforming the securities, insurance, and bond markets, internationalizing the renminbi, and establishing state-of-the-art payment and settlement systems.
But the PBOC still faces plenty of challenges. In the short--to-medium-term, it will have to address bad loan risks, especially an increasing prevalence of shadow banking and banks’ exposure to real estate and local-government debt. In the longer term, it will have to ensure stability as China transforms into a more domestically driven economy. What makes these tasks more daunting for the PBOC is that it must constantly bargain and negotiate with other bureaucracies and with the party leadership. It also must implement a more market-oriented monetary policy while constrained by the legacies of the communist past, such as state control of key financial sectors.
But the bank’s future depends on more than adroit political maneuvering. It must also stave off the kind of financial catastrophes that have besieged the U.S. and Europe in recent years. And that may turn out to be the most difficult challenge of all.
(Stephen Bell is a professor of political economy and Dr. Hui Feng is a research fellow in the School of Political Science and International Studies at the University of Queensland. Their latest book is “The Rise of the People’s Bank of China: The Politics of Institutional Change.” The opinions expressed are their own.)
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