A Study On The Effectiveness Of Interest Rate Policy In China

The effectiveness of interest rate policy refers to the extent how central bank can use interest rate to control the real economy given economic system ect. It depends on the sensitivity of real economy to interest rate changes, which in turn depends on the financial structure, economic structure and the interaction between them.Market-oriented reform requires more indirect economic policy to control economic activity, highlighting the significance of interest rate policy in monetary policy conduction. Recent years have witnessed frequent use of interest policy in controlling economic activity. So, studying the impact of financial and economic reform on the effectiveness of interest rate policy is important for evaluating past reform and providing suggestions for future reform.Some past empirical study have showed that interest rate changes have little influence on real economy before 1997. However, with the progress of market-oriented financial and economic reform, great changes have taken place. First, concentration rate of bank industry decreases after 1997, and the structure of bank industry changes, leading to more competition; second, progress have been made in the reform of money market; third, economic structure also change greatly.With these changes, does the effectiveness of interest rate policy increase? This paper study this question through credit demand because of the importance of credit demand in the conduction of interest rate policy. This paper use the empircal research method of Dickinson(2007): first ues all sample to study the overall impact of interest rate changes; then cut the sample into two parts and study the change of the impact.Empirical study shows that with these changes, the effectiveness of interest rate policy increases to some extent, but not significant, the coefficient of credit demand regressed on interest rate changes from—0.026 to—0.091. This can be seen as an evidence of influence of the financial and economic reform. Financial and economic reforms add more constraints to economic agents, and result in the increase of the effectiveness of interest rate policy.Market-oriented financial and economic reforms have resulted in the increase of the effectiveness of interest rate policy, so the paper provides suggestions for continuing the market-oriented financial and economic reforms in order to further increase the effectiveness of interest rate policy. These suggestions include the reform in the sector of government, firm and bank and money market.The aim of the above-mentioned suggestions is to establish market-oriented institution, including economic agents that take the responsibilty for their economic decisions and institutions that protect fincancial contract. After these reforms, we expect that economic agents will make suitable reponse to interest rate changes and thus increase the effectiveness of interest rate policy.