Further tightening of monetary policy

China continues to be concerned with the effects of an overheating economy.

The answer? To tighten monetary policy but what does that really mean?

China is currently worried that inflation that has been rampant in the food sector will spillover into the rest of the economy.

The primary tools that China is employing is tightening of bank lending (growth of bank lending has slowed from 17 to 13% - still high).

Interest rates have risen 5 times but with little effect. The question is how high will interest rates have to go? I suspect a lot higher.

China acts to tighten economy [FT]

China has announced it has shifted its monetary policy stance from "prudent" to "tightening" in another sign that Beijing is concerned about the acceleration of an economy already growing at double-digit rates.

The decision, formally taken at an annual economic conference in Beijing this week, signals growing concern that investment, the prime driver of growth, is picking up pace again on the back of rising construction.

The government is also concerned that inflation, which has so far been confined to food, could spill over into other sectors. The change in language symbolises such concerns and will give policymakers, including the central bank, greater leeway to dictate the lending practices of local financial institutions.

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The government's most important policy tool to keep construction in check is curbing the rate of growth in bank lending, from about 17 per cent year on year so far in 2007, to about 13 per cent in 2008. This will have a limited impact on overall investment, as about half of it is now funded through retained earnings, and only about a third to 40 per cent through bank lending.

There is no sign that profits as a source of funding are about to be choked off, with earnings of listed companies in the Shanghai market rising 74 per cent year on year in the third quarter and by 89 per cent in Shenzhen.

China has already raised interest rates five times this year, mainly in an effort to keep pace with inflation, with little appreciable impact on the real economy.

"You may see more rate hikes, depending on how the inflation figures pan out," said Mr Anderson.

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