Zhou Xiaochuan’s long reign as PBoC Governor is drawing to a close. He signaled his impending retirement last month and will be seventy years old In January 2018. Zhou has headed up China’s central bank from the early days of China’s “growth miracle” in 2002 and successfully – thanks to massive credit creation - steered China’s economy through the 2008 crisis.
Since then, he’s kept China’s horrendous credit bubble on the rails, while warning of the risk of a “Minsky moment” at the recent Party Congress.
As Bloomberg notes, however, Zhou’s successor will immediately be faced with a series of major problems.
When Zhou Xiaochuan finally hands over the baton at the People’s Bank of China after a decade and a half in charge, his successor will inherit a series of headaches crowned by a debt pile racing toward 300 percent of output. The next governor will be tasked with not just reining in that leverage without tripping up economic growth, but keeping an eye on accelerating inflation too, all as the institution’s role in a complex regulatory structure evolves. As if that wasn’t enough, they’ll also be tasked with maintaining a stable currency as it opens up to market forces and boosting communication to keep global investors in the loop.
"The PBOC is in more of bind than ever with its monetary policy," said Zhao Yang, chief China economist at Nomura Holdings Inc. in Hong Kong. "While it was fine to just look at inflation and economic growth targets in the past, the central bank now has to strike a balance among more targets, some of them conflicting."
1. Financial Sector
If the $40 trillion financial sector is a ticking time-bomb, then the PBOC governor will be among those sweating over which wire to cut. Reducing risky inter-bank lending, weeding out dangerous behavior by asset managers, and corralling internet credit will all be key tasks, all while trying to prevent funding to the real economy from cratering.
While it’s done a decent job so far with that balancing act, the central bank now also must find its place in a new regulatory structure for the bodies in charge of oversight. Whether the PBOC is the leading light of this effort or one among many may depend on the profile of the new governor. And the clock’s ticking -- the financial sector faces further shakeups now that authorities have lifted some curbs on foreign ownership.
2. Policy Framework
How the PBOC interacts with markets in pursuit of its nominal policy goals -- maintaining stability in the value of the currency and thereby promoting economic growth -- is undergoing a shift. From the credit quotas of the planned-economy era that focused on the quantity of money in the system, the central bank is ultimately headed toward letting short-term interest rates set the price of money, as its global peers have long done.
Under Zhou, the PBOC has developed a bewildering array of instruments to guide market rates -- but now it’s trying to focus attention on just two at a time when it’s actually increasing the range of maturities it uses.
Streamlining the policy framework will be a key task for the new governor, especially as the central bank has already announced that it’s moving to a "two-pillar" system that pairs rates policy with tools geared to regulate prices of financial assets.
Of the world’s major central banks, the PBOC talks the least. Whereas Federal Reserve and European Central Bank officials give hundreds of policy speeches each year, Zhou does just a handful.
There are signs, though, that the central bank wants to better explain itself to markets, and has slowly increased commentary this year. In an ever-more complex market environment, Zhou’s successor may have to engage in open-mouth operations a little more.
4. Currency Management
Managing China’s massive capital inflows and outflows, and their effect on the yuan, complicates PBOC efforts to regulate the amount and price of liquidity in the market. It’s a task they may ultimately be glad to be rid of, but for now heading toward a freer-floating yuan is something that the next governor is likely to continue.
Moving in that direction may aid another big goal for Beijing: boosting global use of the yuan. Despite the International Monetary Fund conferring a reserve-currency status last year, the currency’s share of global payments is down from a 2.79 percent peak in August 2015.
With hefty financial-sector and currency tasks already on its plate, it would be easy for the PBOC to forget a little about its inflation mandate. With a damaging episode of runaway inflation in the 1990s in mind though, Zhou’s successor should keep a close eye on developments.
Consumer prices adjusted for food and fuel held at their fastest since 2011 in October, evidence that surging factory prices are beginning to feed through. The government’s drive to reduce pollution could also spur inflation, making a tightening of policy not unthinkable.
While PBOC has to take instruction from the State Council for major policies, the governor can always leverage his knowledge and experience to guide the direction of the policy debate, said Ding Shuang, chief economist for Greater China & North Asia at Standard Charted Bank Ltd in Hong Kong.
"It’s an important ability to make good arguments for its policies to top leaders, which helps the PBOC find a louder voice among policy makers, even though it may not enjoy full independence," he said.
We don’t disagree with the broad strokes painted by Bloomberg above, however, we think Zhou’s successor will have to get his hands dirty at the “coal face” on several issues very quickly.
What is going on at the highly-indebted (and formerly highly acquisitive) conglomerate HNA if it has to pay 9% on a new bond issue.
Why have the authorities taken to issuing warnings about the price of a stock – Kweichow Moutai – rising too quickly? As we explained.
One can wonder why China is suddenly so concerned about even the hint of potential vol spike in the stock market - suggesting that even a modest selloff could have dramatic consequences for the Chinese financial sector
Then there’s the sell-off in China’s government bond market, where 10-year yields have breached the 4% level. We questioned if one reason is Wealth Management Products (WMPs), faced with redemptions, had to sell something quickly. Liquid government bonds were the easiest option, ahead of the higher yielding corporate bonds.
Now that the sell-off has spread to the corporate bond sector, are we seeing the early signs of cascading sell-offs in the Chinese financial system?
Zhou is a shrewd man and his warning about a "Minsky moment" will not have been made idly. He is also a principal architect of China's credit bubble, whether (always) willing or not, and must shoulder some of the blame. If he is lucky, his successor will be the one picking up the pieces. Below is Bloomberg's top five picks of likely replacements for Zhou.
The China Banking Regulatory Commission chairman combines political heft with top-level financial industry experience. His resume includes stints as governor of Shandong province, chairman of China Construction Bank Corp. and head of the nation’s securities regulator. He served at the central bank before, too, as deputy governor between 2001 and 2005, simultaneously running the State Administration of Foreign Exchange.
Many consider Guo a reformer in Zhou’s mold. Still, under Guo, the CBRC advanced the broader crackdown on overseas investments by China’s top dealmakers in June, when it asked banks to detail loans to such companies as Anbang Insurance Group Co. and Fosun International Ltd.
The party chief of Hubei province in central China and a former chairman of two state-owned banks, Jiang isn’t new to the PBOC. He led the Shenzhen and Guangzhou branches during the Asian financial crisis years, and he worked there during the collapse of Guangdong International Trust and Investment Corp., China’s biggest-ever corporate bankruptcy at the time.
Jiang was promoted to assistant governor in 2000. He served as chairman of two state-owned lenders -- Bank of Communications Co., where he led an initial public offering of Hong Kong-listed shares and forged a partnership with HSBC Holdings Plc; and Agricultural Bank of China Ltd., where he started his career.
A longtime member of Xi Jinping’s inner circle, Liu’s influence primarily occurs behind the scenes as director of the Communist Party’s Office of the Central Leading Group for Financial and Economic Affairs. He’s also vice chairman of the National Development & Reform Commission, the government’s top economic planning body.
Though Liu avoids the public spotlight, the Harvard-educated economist has played a pivotal role in the relationship between China and the U.S. As global markets cratered in 2009, then-U.S. Treasury Secretary Timothy Geithner and National Economic Council Director Lawrence Summers separately made time to meet with Liu, who was seen as a link to China’s top leaders, Bloomberg News reported.
Liu, born in 1961, took charge of China’s securities regulator early last year, tasked with restoring investor confidence after the stock-market meltdown of 2015. Using language atypical of China’s political elite, he vowed to take on the “crocodiles” and “barbarians” of the markets, and during his tenure the government imposed heavy fines on market manipulators.
He joined the PBOC in 1996 and became deputy governor in 2006, according to an official biography. Before that he worked at China Construction Bank Corp. and the nation’s economic reform commission. He earned a master’s degree from the economic management school of Tsinghua University in Beijing.
Like Zhou, Yi is a fluent English speaker with longstanding links to global economic leaders and a similar reputation as a reformist. Yi joined the central bank in 1997 and served in a succession of roles before being promoted to deputy governor in 2007.
Yi was administrator of the State Administration of Foreign Exchange from 2009 until 2016. As head of the currency regulator, he presided over expansion of the world’s largest foreign reserve stockpile, which peaked in 2014 at nearly $4 trillion; further loosening of currency trading restrictions; and greater emphasis on increasing the yuan’s international use.