A sizzling economy, inflationary risk and asset price bubbles — all possible results of too much liquidity, one of the thorny issues currently facing China. To find a way out, China Daily spoke to Ba Shusong, a renowned economist with the Development Research Center of the State Council, the government's think-tank.

Q: What is the major source of excess liquidity in China's banking sector?

A: The direct trigger is China's ballooning foreign reserves brought about by its continuous trade surplus and the inflow of foreign investment. China's foreign reserves, which had exceeded 1 trillion yuan at the end of last year, will probably maintain an annual growth rate of no less than $200 billion.

The skyrocketing foreign reserves force the central bank to issue more local currency to absorb it, thus resulting in the excess liquidity. And the People's Bank of China must keep a watchful eye on the possible impact of excess liquidity on prices and investments.
Q: How can excess liquidity be tackled? And what problems does it cause?

A: To reduce liquidity, we must cut the savings ratio.

From the perspective of the balance of payments, too much liquidity is caused by the trade surplus and foreign investment. But from an economics angle, overly high savings is the key reason. The economic formula states: “Investment – Savings = Trade surplus”. If China's savings ratio is not reduced, even if the rapid growth of investment is under control, the trade surplus will continue to soar. Statistics show that China's savings ratio has been above 40 percent or higher in recent years.

The key to cutting the savings ratio is to reduce government and company deposits.

Individual savings, in fact, have been gradually dropping in terms of the broad picture. But government and company deposits continue their rapid growth as a result of enhanced tax revenue and profitability.

Therefore, we suggest more government savings go to public services such as pensions, healthcare and education. When the social security system improves, people will be more willing to spend money.
Q: Economists offer different proposals to address the problem of excess liquidity. What's your viewpoint?

A: In the short term, the central bank can absorb excess liquidity by increasing the required reserve ratio, launching central bank notes and controlling commercial bank loans.

For the moment, raising the required reserve ratio is the most efficient way. In fact, to curb the ever-growing money supply, the central bank raised the required reserve ratio for commercial banks three times in 2006, and further increased it in January. Each rise could freeze 150 billion yuan.