CENTRAL BANK FINANCIAL STRENGTH AND THE COST OF STERILIZATION IN CHINA

This paper investigates the current monetary policy regime of China’s Central Bank, the People’s Bank of China (PBoC). This is done from the specific viewpoint of PBoC financial strength and the cost of its monetary policy instruments. The result shows that PBoC is constrained by the costs of its monetary policy instruments. PBoC tend to use less costly but market-distorting instruments such as deposit interest rate cap and reserve-ratio requirements, rather than more market-oriented but more costly instruments such as central bank note issuance. These costs remain under control today, but may rise in the future as PBoC accumulates more foreign assets. This, in turn, will jeopardize the Chinese monetary authority’s capability to maintain price stability.