Insights into Chinese monetary policy

China’s monetary policy and global commodity markets

Andrea Giovanni Gazzani, Fabrizio Ferriani investigate the international spillovers from Chinese monetary policy shocks. The authors use monetary policy shocks identified by Chen et al. (2018, 2023), which account for China’s specific monetary policy framework based on quantity targets rather than interest rates. They employ a Proxy-SVAR (Structural Vector Autoregression) approach, using the identified monetary policy shocks as an external instrument. Finally, to gauge the importance of the commodity channel, the authors compare unconditional spillovers to a counterfactual scenario where commodity prices do not respond to Chinese monetary policy shocks.

Key findings:

• Domestic effects: A restrictive Chinese monetary policy shock (1% drop in M2) negatively impacts real GDP, CPI, and infrastructure investment. Infrastructure investment is the most responsive, dropping by 3% after almost 3 years.
• Global effects: Chinese monetary policy significantly affects the global economy, with world industrial production declining by almost 1.5% after six quarters.
• Commodity channel:
  – Commodity prices fall by about 10% in response to a contractionary shock.
  – Industrial metals, raw materials, and energy inputs are the most affected commodities.
  – The commodity channel explains 71% of PPI spillovers and 55% of CPI spillovers to advanced economies.
• Inflationary spillovers: Chinese monetary policy generates widespread inflationary spillovers to foreign economies, particularly affecting advanced economies through the commodity channel.
• EMEs financing conditions: The commodity channel of Chinese monetary policy significantly affects financing conditions in commodity-exporting emerging market economies (EMEs).
• Transmission mechanism: Unlike US monetary policy, which transmits via a financial channel, Chinese monetary policy propagates primarily through a real channel, particularly affecting commodity-intensive infrastructure investment.

The International Transmission of Chinese Monetary Policy and the Commodity Channel
Authors: Andrea Giovanni Gazzani, Fabrizio Ferriani
From: Bank of Italy

How to measure monetary policy shocks in China

He et al. develop a new measure of Chinese monetary policy shocks using high-frequency financial data. In particular, the authors develop a new daily measure of Chinese monetary policy shocks using the following methodology:

1. Data source: They use issuance-level data on Negotiable Certificates of Deposit (NCDs) in the Chinese interbank market. NCDs are short-term debt instruments issued by banks to borrow from each other.
2. Event windows: They identify 138 distinct monetary policy announcement days from 2015-2021, covering various policy tools like changes to required reserve ratios, open market operations, lending facilities, and benchmark rates.
3. Two-step estimation procedure:
   Step 1: For each issuer type and NCD maturity, they estimate the sensitivity (beta) of NCD rates to monetary policy changes.
   Step 2: They run cross-sectional regressions of NCD rate changes on the estimated betas for each announcement day.
4. Heteroskedasticity-based estimation: They authors use instrumental variables to address potential endogeneity issues in estimating the betas.
5. Normalization: The shock series is normalized to have the same unit as the 1-year NCD rate for urban commercial banks.
6. Comprehensiveness: Their measure incorporates both quantity-based and interest rate-based policy tools used by the People’s Bank of China.
7. High-frequency identification: By using daily changes in NCD rates around policy announcements, they isolate the unexpected component of monetary policy actions.

This approach results in a single, parsimonious daily time series of Chinese monetary policy shocks that captures unexpected changes in both the quantity and price of money. The authors argue this measure is particularly well-suited for the institutional context of China’s monetary policy framework.

A High-Frequency Measure of Chinese Monetary Policy Shocks
Authors: Jianyao He, Dun Jia, Kai Li, Wenbin Wu
From: University of Texas at Dallas, Peking University, Fudan University