Inflation in ChinaDr. Zhu Jia Ming

WS 2008Kathrin Gajda, Julia Ritirc

It‘s the economy, stupid!The economic system during the cultural revolution and its

impacts

The Adjustments, 1961-1965 High Tide of the Cultural Revolution 1966-1976/78 Resumption of Systematic Growth, 1970-1974 Gang of Four 1974-1976 Foundations of the Chinese Monetary System

(Ciccia) The People‘s Bank (ciccia) Savings and loans (ciccia) Price System (Julia) Question

The Adjustment, 1961-1965

Readjustment

Consolidation

Reinforcement

Improvement

The Adjustment, 1961-1965 AGRICULTURE

Material incentives for workers and peasants: Support for agriculture Decentralization of production decision making and income

distribution within the commune structure Technological advancement in agriculture

INDUSTRY

Planning rather than politics guided production decisions, material rewards

Employment in industrial sector curtailed Industrial investment in branches that support agricultural sector 10.6% average growth of industrial output Reviving plants that operated below capacities after economic

collapse Spread of rural, small-scale industries

High Tide of the Cultural Revolution, 1966-1976/78

Agricultural production stagnated

Disruption of transportation

Shortages of raw materials

Lack of skilled personnel

Rate of changes of Price, Money Supply, Real National Income and Nominal Wage in China (All in Percentage) Yi Gang, Money, Banking, and Financial Markets in China. Westview Press, San Francisco/Oxford, 1994, S.149.

Resumption of Systematic Growth 1970-1974

1970-74Leadership of Premier Zhou Enlai, balanced

development Foreign contacts were expandedimbalances in the capacities of different

industrial sectors need for increased supplies of modern inputs for

agriculture increase in investment,

→ Industrial output grew at an average rate of 8% a year

Some Production Data (in million metric tons unless otherwise specified) Gurley John G, China's Economy and the Maoist Strategy. Monthly Review Press, New York/London, 1976, S. 235.

Gang of Four, 1974-1976

Primacy of nonmaterial, political incentives

Radical reduction of income differences

Elimination of private farm plots

Strengthening of central planning

Denouncement of foreign technology

China's Exports, Imports, and GNP For Selected Subperiods (in millions of U.S. dollars) Gurley John G, China's Economy and the Maoist Strategy. Monthly Review Press, New York/London, 1976, S. 163.

Inputs and outputs of China's agriculture Gurley John G, China's Economy and the Maoist Strategy. Monthly Review Press, New York/London, 1976, S. 248.

Foundations of the Chinese Monetary and Financial System I

Control of Liquidities and credit Control (1949-1951)

1945 value of revolutionary currency was superior to that of the Guomidang

for healthier monetary situation created ist own apparatus: Creation of the People‘s Bank by merging three banks controlled by the CPC (Bank of Northern China, Bank of the North Sea and the Bank of the Peasants of the Northwest) accomplished in 1948!

in 1949 and 1950 People‘s Bank absorbed banks of the nationalist government (in particular Bank of China, Nanjing regimes central Bank!)

Foundations of the Chinese Monetary and Financial System II

Measures to secure People‘s Bank I :

- 1949 Freezing of 20% of deposits at the People‘s Bank, limit approved credits ot 50% of the deposits, forbid withholding of participation in commercial or industrial societies, establish a minmum capital, fix rates of interest on deposits as well as on loans

- In 1950 Bank of China fell under direction of the People‘s Bank in order to undertake overseas financial transactions

- Control of circulation of currency through regulations, set in 1950: fix maximum amount of cash that nationalizied industries could withhold, order to deposit surplus with the People‘s Bank

Measures to secure People‘s Bank II

1948 regulation for private Banks:

No power for currency affairs, prohibition to buy or sellforeign currency reserves, prohibition for market speculations, silver or gold reserves must be stored at People‘s Bank

From 1949 to 1950 private banks decreased from 1083 to 213 banks

Shanghai f.e. deposits and savings on privat banks #decreased from 1949 with 62,9% to 44% in 1950, 23% in 1951 and 0% in 1953

The People‘s Bank

Functions of the People‘s Bank:

- issuing department, State bank (not central bank because its controlled by the state and not an indipendent institution), a credit center for enterprises, system of financial compensation and an agency of economic and financial control

The People‘s Bank resources

Consists of profits not paid to the State and of sums assigned to capital accounts

Profits from capital allocations and budgetary subsidies intended to finance loans for agricultural equipment

Resources from the issue of currency

Most important funds from deposits made by the state, public services and private individuals

Surplus from working operations is partly paid to the state in form of tax and the remainder is put into reserve or allocated to capital accounts

The People‘s Bank public services I

Issuing departments, means printing notes, therefore responsible for circulating the means of payment throughout the country

Watches over monetary circulation and seeks to control savings and maintain the stability of money

_______________________________________Exchange operations are not carried out by the People‘s Bank

but by the Bank of China which since 1950 is under the control of the People‘s Bank

The Bank of China further administers the assets of China in foreign currency and accounts of deposits of Overseas Chinese and distributes credit for export

Exterior financial relations are not directly dependent on the People‘s Bank but instead also on the Bank of China

The People‘s Bank public services II

Holds accounts of administrative departments

Centralizes proceeds from taxes and funds paid by nationalized enterprises

It is NOT responsible for collecting taxes, which is carried out by specialized administrative departments.

Fixes regulations of commercial operations

Economic Functions of the People‘s Bank I

Seeks to match the money supply to the quantity of available goods.

Arrangement of money supply is planned by exact examination of credit demands and systematic encouragment of individual saving

Controls financial situation of enterprises and returns of expenditures, ensures liquid holdings do not exceed forecast amount and that credit has been effectively utilized.

Bank has adviser role for enterprises

If expenditure does not correspond to forecasts, bank can demand immediate repayment of the granted credit

Economic Functions of the People‘s Bank II

Since 1968 bank conducts policy of active encouragement of savings in order to limit increase in demand

Though interest rates relatively low, returns are tax free and stability of purchasing power has been secured since 1955

Savings I

State administrative departments, public institutions, enterprises under public control, since 1950 obliged to deposit funds beyond a certain cash holding at the People‘s Bank.

Self governing rural collectives, production groups, peoples commmunes are not under this regulation, free to total amount of cash

Savings II

Commercial settlements between enterprises, payment of taxes and profits to the state are only made in form of transfer

Salaries, pension and certain agricultural revenues are paid in cash

Savings III

Only possible form of investment for the people is a saving deposit at the People‘s Bank

Payments made with complete freedom concerning amount and frequency

Contrary to other communists countries chinese People are not obliged to put a percentage of their salaries, pensions or agricultural revenue into saving account - savings are furthermore transferable to heirs.

Banking secrecy is said to be guaranteed on all accountsDue to the Great Leap Forward and the Cultural Revolution,

savings between 1957 and 1973 show no crucial increase. Interest rate is profoundly lower than in western countries

Loans I

Provision made in 1950 and 1951 concerning financial organization of State enterprises remain essentially in use (information is based on literature from 1973!)

There do not exist shares, stocks or direct loans granted by enterprises to other production units.

All financial needs and industrial investments are directly controlled by the state budget

Loans II

Industrial or commercial enterprises can receive capital for external expenditures, the acquisition of machines and the purchase of materials from the state budget

The People‘s Bank on the other hand can give out short term loans to cover transitory treasury needs for the acquisition of raw materials or the stock of finished products

Only enterprises dependent on the State or public collectives can obtain such credits.

Civil service departments, private enterprsies or private individuals cannot

Loans III

In order to obtain a loan an enterprise must fulfill two conditions:

- its treasury plan must be approved by the Bank and its financial needs must then correspond to certain types of transactions

Loans to the agricultural sector represent only limited part of the credits of the People‘s Bank

- Loans from 1952 to 1962 for finance of less then 30% of an enterprise needs, during the Great Leap forward up to 100%, from 1973 on up to 70%

Price System Industrial sector dominated by state-owned enterprises

agricultural sector organized by communes

classification: rural and urban consumer

pricing bureaus

Resource allocation determined by administrative channels

Prices played limited role in resource allocation

Functions of planned price system in the CPE profitability of an enterprise Income distribution:

Price System

Low prices: energy, raw materials and transportation sector

High prices: products of processing industries relatively high, prices of agricultural products low relatively to industrial products

Industrialization needed a huge amount of capital

exploitation of peasants → main source of accumulation

Government monopolized buying and selling of agricultural products

Price level increase of only 0, 7% between 1952 and 1978 → difficult to respond to any external or internal shocks

Rate of changes of Price, Money Supply, Real National Income and Nominal Wage in China (All in Percentage) Yi Gang, Money, Banking, and Financial Markets in China. Westview Press, San Francisco/Oxford, 1994, S.149.

Discussion point

1958-1978: No domestic or foreign borrowings, foreign currency reserves