Given the country’s history and size, China’s reform process thus far has been a unique experience. The transformation of China’s economy started at a much earlier date than the reform of similar economic systems of Eastern Europe and the Baltic states, Russia, and other countries of the former Soviet Union. China’s reforms have been gradual, and the starting position was very different from that of other command economies that decided to transform their systems.3 In some respects, as described in Box 2, China’s economic transformation resembles more the modernization of some East Asian economies than that of many former centrally planned economies. Table1 presents a detailed comparison of financial sector policies and development in China, Northeast Asia, and Southeast Asia.
China and the Northeast and Southeast Asian “Miracles”: Financial Sector Policies and Development
China and the Northeast and Southeast Asian “Miracles”: Financial Sector Policies and Development
| Northeast Asia (Japan, Korea, and Taiwan Province of China) | Southeast Asia (Hong Kong, Indonesia, Malaysia, Singapore, and Thailand) | China | |
|---|---|---|---|
| Interventionist policies using financial sector | |||
| Mild financial repression | Applied in all countries. Rates liberalized in Japan in 1970s-80s; in Korea, still ongoing, as in Taiwan Province of China. | Applied in all countries except Hong Kong and Singapore: rates have been liberalized in Malaysia and Thailand. | Tentative attempt to liberalize rates in late 1980s was reversed. Plans are drafted to liberalize rates by the year 2000. |
| Directed credit programs and selective credit policies | Intensely used in Korea; not used in this form in Japan. Development banks “guided” and “stimulated” commercial banks. Most directed credit went to private sector in Japan. In Korea, a large part went to state sector. Stringent monitoring and evaluation criteria applied, particularly in Japan. | Directed credit and selective credit policies, while used in all countries except Hong Kong, do not seem to have been very successful. Monitoring and evaluation were generally weak. | Larger part of bank credit is directed under the credit plan. All directed credit goes to SOEs. Monitoring and evaluation have never been strict. |
| Reliance on development banks or specialized institutions | Approach adopted by Korea and Japan. In Japan, these institutions were the main vehicles for directed and selective credit policies. | Such institutions have never been very popular in most of the Southeast Asian countries, except for Indonesia and Thailand. | Until 1993, state-owned specialized banks were used to implement policies of directed and selective credit. In 1994, policy lending banks were established for this purpose. |
| Financial sector development and liberalization | |||
| Emphasis on regulation and supervision | Good record in terms of non performing loans. | Record in terms of non performing loans is on average better than other developing countries'. | Bank supervision and regulation still in infancy. Supervision still geared toward compliance with credit plan. Record in terms of non performing loans not yet clear. |
| Limits on competition | Interest rates administered for a long time (see above). Other limits included restrictions on entries. NBFI sector was granted more freedom. | Similar to North east Asia. Less emphasis on NBFI development. | Similar to other East Asian countries; restrictions on entries. Branches of foreign banks are not permitted to conduct renminbi business. NBFI sector was granted more freedom. |
| Access to financial system | Postal savings system in all countries fostered savings in rural areas and among people with low incomes in urban areas. | Similar to Northeast Asia. Least developed in Thailand. | RCCs and UCCs established in early reform years to attract rural and urban savings. Postal savings system less developed. |
| Capital market development | Relatively slow; in Japan, among other reasons, due to existence of long-term financing institutions, | Also relatively slow, mainly because sound fiscal position never stimulated government securities market. | A striking feature of China's reforms. Government securities market started early in reform process as alternative financing source for Government. |
| Money market development | Mixed record. Well developed In Japan. Some segments developed in Korea (certificates of deposit, commercial paper, and repurchase agreements). | Well developed in Hong Kong and Singapore. Some segments well developed in Thailand (repurchase agreements, certificates of deposit, and commercial paper). Indonesia, and Malaysia (certificates of deposit and bankers' acceptances). Lack of development attributable to lack of short-term government securities and of interest rate liberalization. | Underdeveloped; not integrated at the national level. |
China and the Northeast and Southeast Asian “Miracles”: Financial Sector Policies and Development
| Northeast Asia (Japan, Korea, and Taiwan Province of China) | Southeast Asia (Hong Kong, Indonesia, Malaysia, Singapore, and Thailand) | China | |
|---|---|---|---|
| Interventionist policies using financial sector | |||
| Mild financial repression | Applied in all countries. Rates liberalized in Japan in 1970s-80s; in Korea, still ongoing, as in Taiwan Province of China. | Applied in all countries except Hong Kong and Singapore: rates have been liberalized in Malaysia and Thailand. | Tentative attempt to liberalize rates in late 1980s was reversed. Plans are drafted to liberalize rates by the year 2000. |
| Directed credit programs and selective credit policies | Intensely used in Korea; not used in this form in Japan. Development banks “guided” and “stimulated” commercial banks. Most directed credit went to private sector in Japan. In Korea, a large part went to state sector. Stringent monitoring and evaluation criteria applied, particularly in Japan. | Directed credit and selective credit policies, while used in all countries except Hong Kong, do not seem to have been very successful. Monitoring and evaluation were generally weak. | Larger part of bank credit is directed under the credit plan. All directed credit goes to SOEs. Monitoring and evaluation have never been strict. |
| Reliance on development banks or specialized institutions | Approach adopted by Korea and Japan. In Japan, these institutions were the main vehicles for directed and selective credit policies. | Such institutions have never been very popular in most of the Southeast Asian countries, except for Indonesia and Thailand. | Until 1993, state-owned specialized banks were used to implement policies of directed and selective credit. In 1994, policy lending banks were established for this purpose. |
| Financial sector development and liberalization | |||
| Emphasis on regulation and supervision | Good record in terms of non performing loans. | Record in terms of non performing loans is on average better than other developing countries'. | Bank supervision and regulation still in infancy. Supervision still geared toward compliance with credit plan. Record in terms of non performing loans not yet clear. |
| Limits on competition | Interest rates administered for a long time (see above). Other limits included restrictions on entries. NBFI sector was granted more freedom. | Similar to North east Asia. Less emphasis on NBFI development. | Similar to other East Asian countries; restrictions on entries. Branches of foreign banks are not permitted to conduct renminbi business. NBFI sector was granted more freedom. |
| Access to financial system | Postal savings system in all countries fostered savings in rural areas and among people with low incomes in urban areas. | Similar to Northeast Asia. Least developed in Thailand. | RCCs and UCCs established in early reform years to attract rural and urban savings. Postal savings system less developed. |
| Capital market development | Relatively slow; in Japan, among other reasons, due to existence of long-term financing institutions, | Also relatively slow, mainly because sound fiscal position never stimulated government securities market. | A striking feature of China's reforms. Government securities market started early in reform process as alternative financing source for Government. |
| Money market development | Mixed record. Well developed In Japan. Some segments developed in Korea (certificates of deposit, commercial paper, and repurchase agreements). | Well developed in Hong Kong and Singapore. Some segments well developed in Thailand (repurchase agreements, certificates of deposit, and commercial paper). Indonesia, and Malaysia (certificates of deposit and bankers' acceptances). Lack of development attributable to lack of short-term government securities and of interest rate liberalization. | Underdeveloped; not integrated at the national level. |
The resemblance to some Southeast Asian success stories is most noticeable in the underlying conditions of the reform process, that is, the macroeconomic stability and high savings ratio. Similarly, China adopted a pragmatic and gradual strategy toward reform. In several Southeast Asian countries, controls over market mechanisms were typically removed only slowly and sometimes reintroduced when the economy tended to overheat. Another striking similarity between the modernization process in China and in some neighboring countries is that the modernization—or “marketization”—of the financial system was slow during the early stages of the reform and that the sector remained highly controlled throughout (most of) the reform period. While allowing a fair amount of institution building, authorities in, for example, Korea and Japan kept tight control over the financial sector for a long time (even though their approaches were different) in order to implement their financial allocation policies. This control took the form of administered interest rates, directed credits, and accompanying interest rate subsidies.4 The successful examples of Korea and Japan certainly inspired and influenced China.
This section summarizes the main achievements of China’s financial reform process (as of 1995) and highlights the areas where further reform is needed to achieve the goals set for the year 2000. Subsequently, financial reforms are placed against the background of the overall reform process thus far.5
Three Components of Financial Sector Development
During the past decade and a half of economic reforms, China’s financial system has developed remarkably. Analytically, it is useful to conceive financial sector development as a balanced development of the triangle of institutions, instruments, and markets. The first element includes the establishment of banks and other financial institutions, as well as of infrastructure, such as the payments system. The instrument leg refers to the development of a range of financial instruments available to market participants to invest and trade. Development of the third component, markets, presupposes the free operation of the price mechanism across financial markets. Without price flexibility, financial markets do not mature either to support trade and investment or to conduct economic policy.
Application of this triangle to China’s financial system indicates that most attention has been given to institution building. The process of market development—including liberalization of financial operations—has received the least attention, while the development of new financial instruments has been confined to the capital markets. This view implies that, during the next stages of reform, greater emphasis will have to be placed on liberalization measures, in order to complement achievements in the two other components and to prevent the financial system from becoming a bottleneck to the development of a market economy.
China and the Northeast and Southeast Asian “Miracles”: Common and Uncommon Features in Financial Sector Development
The successful economic development of several Northeast Asian countries (Japan, Korea, and Taiwan Province of China) and Southeast Asian countries (Hong Kong, Indonesia, Malaysia, Singapore, and Thailand) has been accompanied by a strategy of financial sector development and liberalization that shows several similarities across countries (see World Bank (1993)). As explained below, China’s financial sector development shows more similarities with this “Asian strategy” than with the path adopted by Eastern European countries, the Baltic states, Russia, and the countries of the former Soviet Union, with which China shares the transition from plan to market economy.
One of the main features of the policy strategy adopted (at the macroeconomic and microeconomic levels) by Asian countries under review is the continuous search for a balance between macroeconomic policies that adhere to policy fundamentals and selective interventionist policies. Selective interventions have been used more frequently in Northeast Asia than in Southeast Asia. In general, whenever selective interventions have threatened macroeconomic stability, the authorities have consistently come down on the side of prudent macroeconomic management.
The financial sector is seen as the main vehicle for interventionist policies. The combination of prudent macroeconomic management and selective interventions has in general led to an environment conducive to savings and investment, one of the main features of the so-called miracle. Interventionist policies, almost by definition, have relied heavily on the financial sector. Such policies usually take the form of (i) mild financial repression, (ii) directed credit programs, (iii) selective credit policies, and (iv) use of development banks and specialized institutions. To achieve their policy goals, governments usually try to keep a grip on financial sector development as long as possible.
A brief comparison of the Chinese, Northeast Asian, and Southeast Asian policy approaches reveals interesting similarities and differences in a number of areas. First, with respect to interest rate policies, most countries in the sample have postponed interest rate liberalization for a long time (by now, rates are liberalized in all countries, with the exception of Korea, where the process is under way). Common to all countries was the adoption of a policy of mild repression of the interest rates. In most countries, real rates were most of the time positive, although at below-market clearing levels. Rates were only occasionally allowed to be negative in real terms (for example, after shocks to the economy). This policy seems to have encouraged investment, while savings were not really discouraged because rates were never negative for a long time.
China’s interest rate policy history thus far is not very different from this general picture. The interest rate structure is administratively set by the authorities. Real rates have turned negative on some occasions when inflation accelerated. To safeguard the savings pattern, long-term deposit rates have been indexed on such occasions since 1988. Interest rate liberalization is now at the fore of the agenda.
Second, credit allocation by the government through directed credit has been common in most of the countries under review. These programs were implemented either through state-owned banks or through private banks. World Bank (1993) identifies a major difference in the performance of these programs by the Northeast Asian group, on the one hand, and most of the Southeast Asian group, on the other. In Japan and Korea, directed credit mechanisms were based on performance criteria and seem generally to have contributed to better credit allocation. Most other countries lacked strong performance-based allocation and monitoring mechanisms and therefore have been largely unsuccessful.
In China, directed credit has remained the dominant allocation tool during most of the reform because of the continued reliance on the credit plan. Mechanisms to measure performance have been absent for a long time. The present “commercialization” of the state-owned banks and the establishment of policy lending banks indicate a turn in the policy approach.
Third, selective credit policies have been widely used in the Asian countries under review, including programs of subsidized interest rates for housing loans (Singapore), export credit (all countries except Hong Kong), agriculture and small and medium-sized enterprises (Indonesia, Malaysia, and Thailand) and specifically targeted sectors (Japan and Korea). China has a wide range of subsidized interest rates specifically set for individual sectors of the economy. The dominance of directed credit in China leads to a situation wherein directed credit and interest subsidy are narrowly inter-woven, more than in most other countries.
Fourth, reliance on development banks and specialized institutions has been another means for governments to achieve the goals set by their interventionist policies. Government-owned development banks were established in Indonesia, Japan, Korea, and Taiwan Province of China. They have been most successful in the Northeast Asian countries. Most of these banks have used commercial criteria to evaluate and monitor projects, and their good performance has created spillovers to the rest of the financial system. While China has relied on “specialized” banks throughout its reforms, the emergence of development banks (policy lending banks) is a recent phenomenon, and it is too early to evaluate their operating methods and performance.
Both the role given to the financial sector in economic development and the specific interventionist policies adopted have influenced the way that the financial sector has been developing and liberalizing in most of the countries involved. In general, much attention has been paid to institution building, while market development—and the concomitant liberalization—has for a long time been selective. More generally, financial liberalization has been gradual and has come at later stages in the process. Following are the most salient features of financial sector development:
• Because of their emphasis on bank supervision and regulation, most countries in the sample have been more successful than others in the world in supervising and regulating the financial sector to avoid solvency problems. World Bank (1993) shows that nonperforming loans have been less of a problem in Asian countries than in most other parts of the developing world. In addition, most of the countries surveyed have met or are in the process of meeting the capital adequacy standards of the Bank for International Settlements. This is the area where China is lagging the most. Bank supervision based on market principles is still in its infancy, and it is to be feared that the reform of the state-owned enterprises will open a Pandora’s box of nonperforming loans.
• To be able to keep control over the financial system—to facilitate implementation of their policies—governments in most Asian countries strictly limited competition in the financial sector by regulating new entries in the banking system. So, while competition was limited through the regulation of interest rates and spreads, rigid restrictions on entry (for foreign banks, as well as for local entrants) also shielded the banks from new competitors. In Northeast Asia, the banking system was strictly controlled, but governments allowed the establishment of nonbank financial institutions (NBFIs), which often were given more leeway than banks to compete and attract savings. Such policies have led to some disintermediation out of the banks. So far, China has been following a path similar to the Northeast Asian countries by limiting entry into the banking system (except for the Special Economic Zones) and encouraging (or allowing) the creation of an NBFI sector. Branches of foreign banks are not permitted to conduct renminbi-based business.
• Most countries have sought ways to expand and facilitate the access of rural areas to the formal financial system. In most countries, the postal savings system has been very instrumental in the success of this policy. In China, where the country’s size was a major challenge, the goal has been met by establishing a vast network of rural credit cooperatives, which are linked to the banking system through the Agricultural Bank. Although it is available, the postal savings system has played a relatively minor role in creating access to the banking system.
• Capital market development has been relatively slow in most countries under review. Several factors account for this, such as the establishment of long-term financing institutions (Japan and Thailand), which took away the need and appetite for a corporate bond market, and the lack of government securities markets (which in itself was a consequence of sound fiscal policies), particularly in Southeast Asia. The lack of government securities markets deprived fledgling corporate bond markets from a risk-free benchmark rate. Several countries are now making great efforts to establish capital markets. In contrast, capital market development in China started early in the reform, inspired by the need to tap alternative financial sources for the Government and for the emerging collective township and village enterprises. Even though outstanding volumes and trade activity have increased sharply, the market has been hindered by the absence of an integrated payments and settlement system, a solid legislative framework, and a nationally integrated money market.
• Money market development, as expected, is, among others, closely linked to interest rate liberalization. As a consequence, the money market development record in the Northeast and Southeast Asian countries is mixed. Most countries recognized the importance of having a money market early in the reform stages. However, the approach has been in most cases piecemeal or selective. Many countries have one or several money market segments (treasury bills, commercial paper, certificates of deposit, or repurchase agreements) in which interest rates have been liberalized early in the process. While these markets have been operating satisfactorily, the lack of interest rate liberalization in other parts of the money market often led to the existence of a segmented market. This phenomenon has been most visible in Korea and Indonesia. Money market development in China has been lagging, owing to the lack of interest rate liberalization and an appropriate payments and settlement infrastructure.
The absence of interest rate liberalization, the importance given to forms of directed credit, the embryonic state of the money market, and the lack of large-value payments and settlement systems are factors that in one way or another have contributed to a slow transition from direct to indirect instruments in most countries. It is clear from this overview that, in most countries, credit ceilings and administered interest rates dominated the range of monetary policy instruments for a long time. Only the Bank of Japan never relied on directed credit and credit ceilings, but moral suasion has been a powerful instrument in that country (as in most countries in the area). By now, indirect instruments dominate in most countries. The adoption of indirect instruments in China—more particularly, open market operations—is being slowed down by the same factors (listed above) that have affected other countries in the region. The reform agenda for the near future contains such elements as interest rate liberalization, money market development, and modernization of the payments and settlement system, which will enable the People’s Bank of China to increase its reliance on indirect instruments.
Institutions
Institution building started in the early reform years with the establishment of a two-tier banking system. Gradually, the People’s Bank of China (PBC) was divested of all its “commercial” activities. In 1984, the PBC became the country’s central bank. Central banking received a new impetus in 1995 when a new law on the PBC was enacted that gave the central bank the legal framework to operate under the leadership of the State Council in a market environment.
Concomitantly with the gradual transformation of the PBC into a genuine central bank, the instrument framework for monetary policy has evolved. Since the mid-1980s, the PBC has introduced new monetary policy instruments, such as reserve requirements and lending to the commercial banks, to support its monetary policy actions, which remained guided by the credit plan. Even though the credit plan remained the main policy instrument, its effectiveness has been decreasing since the late 1980s, mainly because its institutional coverage started lagging behind the expansion of the banking sector. In 1994, direct central bank lending to the Government was discontinued, and preparations for the adoption of an indirect monetary policy framework were begun in earnest. These decisions have signaled the start of the phasing out of the credit plan, in line with the strategy to establish a market economy.
Beginning in 1984, new banks were permitted to operate alongside the state-owned specialized banks, which at the same time were formally allowed to diversify their operations. During the second half of the 1980s, a flourishing network of non-bank financial institutions (NBFIs) emerged. Since then, a dual-track banking system has been in operation, as four specialized banks are used to implement the Government’s financial policies as laid out in the credit plan, while other, new banks enjoy more freedom in their operations. The establishment of three policy lending banks in 1994 and the enactment of the commercial bank law in 1995 are meant to facilitate transformation of the four state-owned specialized banks into commercial banks. (For a definition of policy lending banks, see the subsection on “Commercialization and Expansion” in Secion III.) The new commercial bank law will also be used to introduce more order in financial sector development by separating banking from other business. Indirectly, therefore, this law will also assist in streamlining the NBFI sector, which has suffered from underregulation and lack of supervision.
Instruments
Financial instrument development has concentrated on the gradual but significant development of capital markets in China. Capital markets began to develop in 1981 when the Government of China resumed the issuance of government securities. Shortly thereafter, other types of bonds, as well as enterprise shares, appeared, even though their issuance was strictly controlled by the authorities. Since 1988, secondary markets in bonds and stocks have been allowed to operate, and their activity has further boosted capital market development. The stock exchanges of Shanghai and Shenzhen have become the exponents of China’s flourishing capital market activity.
Markets
For most of the period since 1978, developments in the third pillar of financial reform—market development and liberalization—have remained in the shadow of the institution-building process. While the four state-owned specialized banks are in principle free to develop activities outside their traditional field of specialization, their lack of expertise, the continued dominance of the credit plan, and the customers’ limited freedom to choose their banking relations have hampered the ability of these banks to operate competitively.
The first attempts at liberalizing the domestic financial system were undertaken in the period 1986–88, shortly after the PBC was established as a central bank. Compliance with credit quotas was relaxed, and banks were allowed to set lending rates freely within prespecified margins above the administered rates. However, inflationary developments in 1987–88 brought these liberalization efforts to a temporary halt. Since the early 1990s, banks and NBFIs have again been granted the freedom to set lending rates within prespecified margins, with the width of the margin depending on the type of institution.
The absence of nationally organized money markets—one of the salient features of China’s financial sector in the early 1990s—is related to the administrative nature of interest rate setting and the lack of a modern payments and settlement infrastructure. This lack of a nationally integrated interbank and money market has, in turn, hampered the transition to indirect instruments of monetary policy.
Market development has probably progressed the most in the external sector. The establishment of the so-called swap centers in 1986 marked the introduction of an embryo foreign exchange market in China. Until 1992–93, the turnover of this market, organized by the swap centers under the supervision of the State Administration for Exchange Control (SAEC), grew steadily. A new phase started in 1993 when the authorities decided to unify the exchange rates used in the different swap centers (the swap rates) and, therefore, to create one national foreign exchange market. This unification was achieved at the beginning of 1994. At the same time, the official rate and the swap rate were unified.
Against this background, the agenda of financial reform for the near future will clearly have to emphasize greater flexibility in interest rates, money market development, and more competition in the banking system. Reforms in these areas, which will mutually reinforce each other, will support a more efficient allocation of funds in the economy and pave the way for a more effective use of the indirect monetary policy instruments already in place and for the introduction of open market operations as the PBC’s main instrument of indirect monetary policy.
Characteristics of the Overall Reform Process
As in other sectors, financial reform has not followed a rigid, comprehensive blueprint, at least not until 1992–93. Instead, it has been characterized by pragmatism and gradualism, making reform in China evolutionary rather than revolutionary. The size and diversity of the country, as well as the decentralization in the decision making introduced early in the reform process, have allowed it to adopt small-scale “laboratory approaches” and be selective in starting specific reforms.6 As a result, the pace and degree of reform have varied greatly across regions in China, contributing to widening regional economic disparities. The gradual, evolutionary process has also stimulated the use of an intermediate control system, combining mechanisms of the command economy with mechanisms used in market economies.
Laboratory Approach and Selectivity
From the onset of the reform process, one of the preferred and perhaps most salient techniques of the Chinese authorities has been to undertake the reforms first on an experimental basis in some localities and adopt them on a national scale after they had proved successful at the local level. Two variants of this experimental or laboratory approach are found. In some cases, the central authorities have designated one region (province or city) as the pilot for a new project, while, in other cases, as a result of the growing decentralization of decision-making processes, local authorities themselves have initiated projects that were later officially recognized by the Central Government and treated as experimental projects of national significance.
Two factors contributed to the feasibility and success of this approach. First, the sheer size of the country makes it easier for China than for smaller countries to undertake experiments at the local level that can yield significant results. In addition, and perhaps more important, labor and capital mobility was highly restricted during the first years of the reforms in China, so that local experiments could be conducted without much spillover to the rest of the country. This kind of experimentation has increasingly become more difficult to conduct because both population and capital mobility have gained momentum.
Examples of the laboratory approach in the financial sector include the opening of local interbank centers and swap centers in selected cities in 1986 and the opening of secondary markets in government securities in six cities in 1988. In both cases, other cities were allowed to follow suit after the authorities had sufficient indications that these experiments were successful.
An example of a local initiative subsequently adopted as a national initiative was the establishment of stock exchanges. The local authorities in Shanghai and Shenzhen encouraged the development of exchanges in their cities without support from the national authorities. Later, Shanghai was recognized by the Central Government as the nation’s major stock exchange experiment, followed by Shenzhen, while local attempts in other cities were put on hold.
Selectivity in the reforms is closely linked to the experimental approach. From the beginning, the Chinese authorities selected certain provinces or regions to play a leading role in the reform process. The Special Economic Zones (SEZs) are the most striking examples of this approach. These zones were given the freedom to offer special (financial and other) advantages to attract foreign investors in order to promote economic growth and the opening of the Chinese economy to the outside world. The “experimental impulse” is also part of this approach. For instance, branches of foreign banks could be opened in the SEZs, even though these banks were not allowed to conduct business in renminbi. Credit quotas in the SEZs had only an indicative character, and banks were permitted more freedom in setting their lending and deposit rates than in the rest of the country.
Intermediate Control Mechanisms
Intermediate control mechanisms have been established to smooth the transition from one economic system to the other and to familiarize the economic agents with the features and mechanisms of the newly emerging system. Examples are the establishment of a two-tier pricing system (1984), the introduction of monetary policy instruments of a more indirect type (1984), the introduction of a swap market in foreign exchange retention rights to improve the use of foreign exchange (1986), the granting of more freedom to the banks in setting interest rates (1986), and the establishment of local interbank markets to encourage banks’ liquidity management (1986).
Despite some obvious advantages, it can be said with hindsight that the resort to intermediate control mechanisms has also had certain drawbacks. More particularly, there is evidence that the large cyclical movements of China’s economy since 1979 can be attributed to some extent to the above-cited mixture of techniques (see Khor, (1991) and Bell, Khor, and Kochhar (1993) for more details on these issues).7 Each time that a new wave of innovations and reform was introduced (1979, 1984, and 1992), economic activity received a major impetus. In these circumstances, the economy began to over-heat, and monetary policy measures were put in the line of fire to contain the pressure. On several occasions, however, indirect instruments of monetary policy (increases in required reserves and tightening of PBC lending) did not seem sufficiently effective to contain inflation, mainly because the appropriate environment for their use was still missing. The PBC had thus to resort to administrative controls (tighter credit quotas and increases in interest rates). However, changes in these instruments are subject to approval by the State Council, which entails long decision-making lags that involve recognition of the problems and the search for consensus on the action to be taken. In the end, such a decision-making process requires more restrictive measures than would have been necessary initially. This situation contributed to the sharp downturns and hard landings that have typified macroeconomic developments in China since the early 1980s.