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Financial Development and Liberalization
China has received tremendous, fast economic growth through the past decades. Since it started its transformation in 1978, the Chinese economy has maintained a consistent growth rate of 9.8% annually (Zhang et al, 2012). On the other hand, its outstanding loans in the main financial institutions, which are relative to the country's GDP, have incredibly increased to 107% from 51%. Currently, China is the second-largest economy after the U.S. and in time it can become globally the largest considering its purchasing power parity (Economist, 2010). Financial development in China is attributed to the significant transformations in the financial systems of the country. The structural reforms have enabled the development of the financial systems, hence observable growth in the economy.
The Evolution of the Banking Sector
Before 1994, the financial system in China was rather underdeveloped since there were no market-based financial systems (Anderson, 2004). The Peoples Bank of China (PBOC) was the only bank operating as both a commercial bank and the central bank. It later developed into a two-tier system after the establishment of the four state-owned commercial banks. The PBOC remained as the central bank while the new four banks performed commercial transactions. There were, however, newly established banks and financial institutions, which became the main sources of competition in the financial sector (Christopoulos and Tsionas, 2004). Non-banking financial institutions had also started streaming into China later on and thus the financial system totally changed. The old ways of central scheduling and distribution of finances gave way to other ones. This forced the local governments to assert their rights to decide on resource allocations through self-raised funds and loans (Laurenceson, 2010). Although the majority of financial institutions had entered China, the banking sector was entirely dominated by the first four banks known as the big four. They included the Agricultural Bank of China, the Industrial and Commercial Bank of China (ICBC), the China Construction Bank, and the Bank of China. The banks enhanced in developing the money market and creating capital market. In 1996-2008, the four big banks controlled about 60 % of the banking industry in China (see Table I). By 2008, there were 5,600 banking financial institutions.
The interbank bond, interbank money, and the bill markets were initiated as a base of China money market to increase the money market system. The interbank money market, which provided a stage for interbank money transactions, was created in 1996 (Laurenceson, J. 2003). The interbank bond market was initiated in the 1980s while the bill market was started in 1994. Figure I shows the Chinese interbank rate floating for the last decade. Figure II shows the trend in money supply growth of Peoples Bank of China.
The Evolution of Equity Market
The stock markets grew rapidly and the number of companies in the stock market increased from only 10 to 1781 from 1990 to 2009. Also, the total stock increased from 500 billion to 32.7 trillion Yuan. Trading value increased tremendously. The stock market grew in size with a variety of stocks. There were more than 1700 firms listed by 2009. The entry into the stock market was lowered and this enabled the entry of SMEs. Also, the growth enterprise board (GEB) was launched in 2008. By 2010, 28 companies were listed in the stock market.
Changes in Financial Regulation
China Securities Regulatory Commission (CSRC) was the first financial regulator set up after Shanghai and Shenzhen stock exchanges were established in 1992. In 1998, the China Insurance Regulatory Commission (CIRC) was established. Also, the China Banking Regulatory Commission (CBRC) was set up in 2003. One of the advantages of financial liberalization was the realization of capital adequacy. CSRC regulated the responsibilities of PBOC and the local government. Also, CSRC nominated stock exchange top managers and supervised the other security companies. To ensure proper supervision, CSRC reinforced its leadership and increased its branches to 36 in all major cities in China.
Between 1994 and Chinas entry into WTO in 2001, sweeping reforms made in financial regulations and substantial financial developments could be seen in the country. Some of the fulfilled reforms entailed a move from central control to an independent and less administrative banking system (Park and Shen, 2008). Three policy banks were established to relieve the big four banks from their policy lending job. There was also a shift of China's monetary policy towards indirect control of money. Planning of credits was abandoned and was taken over by indirect monetary instrumentation together with the management of asset-liability (Berger et al., 2009). More banks, both privately owned and government-owned banks, appeared during this reform era than ever before. Figure III shows the GPD in China through the discussed years characterized by financial development and liberalization. The country's economic growth has increased tremendously through the years (Anderson, 2004).
Financial Liberalization in China
China's financial liberalization came after the WTO entry in the late 2001. This period is characterized by a remarkable financial liberalization process that mainly included considerable interest rates, freedom for foreign banks, and less restriction on ownership takeovers. A major aspect of China's financial liberalization was the interest rates since it featured in the marketization of resource allocation (Zhang et al, 2012). Initially, the interest rates were liberalized, however, after the WTO entry quick steps were taken, which helped in relaxing the restrictions on interest rates for loans and deposits.
Financial liberalization brought about capital adequacy, asset quality, general supervision, and risk control among the financial institutions. Financial institutions, for instance, banks in a credit crisis or difficulties during this liberalization period can be restructured or taken over by the China Banking Regulatory Commission (CBRC) (Benhabib and Spiegel, 2000). Several problems about banking institutions were realized, and appropriate measures have been used to maintain the financial credibility of the country. Aspects of corporate governance, risk management, and operation technology required improvement through foreign strategic investors.
China Interbank Offered Rate (CHIBOR) from Dec. 2007 to Dec. 2011 in China
The trend in money supply growth of Peoples Bank of China.
The GPD in China through the years