Aug 23 2007

Can Monetary policy cool China’s “overheating” economy?

Published by at 3:06 pm under Monetary Policy

[youtube qPSjE3VYvA0 nolink]

China’s economy grew by 11.9% in the second quarter of this year. Great, right? Well, not if that growth is accompanied by 5% inflation and increasing threats to the environment. The reporter says that China’s rapid growth “has increased speculation that the Beijing government will raise interest rates again to cool growth.” Watch the video and discuss the following questions.

Discussion Questions: After reading chapter 15 of your text, discuss the following.

  1. Which tools of monetary policy does the video reference that China’s central bank may implement?
  2. How does the central bank affect interest rates charged by commercial banks?
  3. Why is “China’s economy overheating” a bad thing? What are the signs of an overheating economy?

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About the author:  Jason Welker teaches International Baccalaureate and Advanced Placement Economics at Zurich International School in Switzerland. In addition to publishing various online resources for economics students and teachers, Jason developed the online version of the Economics course for the IB and is has authored two Economics textbooks: Pearson Baccalaureate’s Economics for the IB Diploma and REA’s AP Macroeconomics Crash Course. Jason is a native of the Pacific Northwest of the United States, and is a passionate adventurer, who considers himself a skier / mountain biker who teaches Economics in his free time. He and his wife keep a ski chalet in the mountains of Northern Idaho, which now that they live in the Swiss Alps gets far too little use. Read more posts by this author

11 responses so far

11 Responses to “Can Monetary policy cool China’s “overheating” economy?”

  1. yunqimokon 24 Aug 2007 at 7:04 pm

    China's economy overheating is extremely bad, not only to chinese citizens themselves, but for the whole world. Because of the growing economy, the world has begun investing great amounts of business and money. However, if the economy keeps growing at such a fast pace, it will reach saturation point too quickly, when they produce more than their resources can support. This will case banks to withold money, causing loans to be difficult to secure. Overall, for the people in China, prices will keep rising, while their wages may not.

  2. Manon van Thorenburgon 24 Aug 2007 at 7:52 pm

    1. Which tools of monetary policy does the video reference that China’s central bank may implement?

    China's central bank will want to reduce the money supply in order to raise interest rates to "cool growth". This can be done in several ways; however, the most effective tool is Open Market Operations, which is simply buying and selling previously issued government securities to banks or to the public. When issuing a "tightening policy", the central bank would have to sell government securities. I'm not quite sure how (can we discuss this in class? it's sort of confusing) but this will end up in a slowing down of economic growth.

    2. How does the central bank affect interest rates charged by commercial banks?

    The central bank can change the discount rate, which is the interest rate commercial banks must pay on loans from the central bank.

    3. Why is “China’s economy overheating” a bad thing? What are the signs of an overheating economy? China's economy is overheating due to the fact that it is growing so rapidly that inflation will zoom up. This is buuuhaoo!

  3. mina.songon 24 Aug 2007 at 9:51 pm

    the news is only talking about the bad things about the china's economy. and we know that it is bad way to start and grow the economy like china, but it is only there's start, and they are slowing opening the market to individuals. With there own way of growing they have increase so much that they are about to overcome th economy of Germany.

    if it is good for china to increaswe the interest rate to develop their economy, I think they should do it. and I think it is bette than doing nothing.

  4. Lucas Tophamon 26 Aug 2007 at 6:06 pm

    1. The tools of monetary policy that the video refers to is the reserve ratio. If the Chinese Central Bank increases the reserve ratio this will increase the amount of money that banks must keep in reserve and will lower the money supply therefore slowing down inflation. This form of monetary policy is called restrictionary or tight money policy.

    2. The Central bank can raise the discount rate, which will in turn raise the interest rate of the banks.

    3. China's economy overheating is caused by their ridiculously fast growth and because it is growing so fast inflation will grow along with it.

  5. Marco Garofaloon 26 Aug 2007 at 6:19 pm

    1. The video makes reference to one of the three tools of monetary policy. It suggests that there will be an "imminent increase in intrest rates, or the amount of money that banks have to keep in reserve, which means its not available to be lent out." This tool of monetary policy is reserve ratio. It is the most powerful tool of monetary policy (the Fed hasn't used it since '92), however, the Chinese Central Bank may feel it is appropriate in this case.

    2. The Central Bank can increase the intrest rates paid by the commercial banks by using the third tool of monetary policy. This is the discount rate. By increasing this, they increase the price of money for these commercial banks.

    3. Signs of overheating, as suggested by the video, are high inflation, structural problems and much pollution.

  6. kajon 26 Aug 2007 at 10:08 pm

    The video says that China’s central bank may employ the reserve ratio policy. By increasing the reserve ratio, Chinese banks are required to hold more money in their bank. This means there is less money for the public to be spent because it is in the fault of the bank. Because there is less money to be spent, it slows down inflation. This is also known as restrictionary or tight policy.

    The Chinese Central bank can increase or decrease the discount rate. If they increase the discount rate, the also increase the interest rate because it has made money more expensive.

    The Chinese economy is growing too fast, this is a bad thing because inflation grows very fast too. Other signs of an overheating economy are pollution and structural problems.

  7. Dannyon 27 Aug 2007 at 12:38 am

    Which tools of monetary policy does the video reference that China’s central bank may implement?

    The policy that is mentioned in this video which may be implemented by China's central bank is the reserve ratio -"that signals an imminent increase in the interest rate or the amount of money banks need to keep in reserves". By implementing the reserve ratio, banks are required to store a higher percentage of checking-deposits into reserves and thus less money is created by reduction in lending. Interest rates will then go up and thus less money is invested in the economy. The policy implemented could also be discount rate. If the federal reserve increases the discount rate, this would directly affect the interest rates in banks.

    How does the central bank affect interest rates charged by commercial banks?

    The central bank would increase the discount rate, which is the cost of borrowing money from the federal reserve. This would directly affect the money supply and thus the interest rates charged by commercial banks.

    Why is “China’s economy overheating” a bad thing? What are the signs of an overheating economy?

    As the chinese economy increases at high rates, inflation will increase as well. Signs of an overheating economy could be high inflation rates, double digit economic growth, and pollution.

  8. Jameson 27 Aug 2007 at 3:52 am

    1. The video refers to the reserve ratio. Increasing the reserve ratio, the ratio of money that banks have to keep in reserve, restricts the total amount of money that is in circulation in attempt to slow down the rate of inflation currently experienced by China.

    2. The central bank affects interest rates charged by commercial banks by raising the discount rate which will in turn raise interest rates.

    3. “China’s economy overheating” is a bad thing because it means that inflation is increasing at such a level that recession is expectedto follow. Signs of an overheating economy are high rates of inflation and high rates of economic growth.

  9. Jenny Kimon 29 Aug 2007 at 12:33 am

    According to the video, China's central bank may implement the reserve ratio in order to "cool" China's economy. If the bank increases the reserve ration, more money can be kept in banks, less money will be actually circulatin in the economy, thus slowing down the inflation risk China is currently facing.

    The central bank affects the interest rate charged by the commercial bank by increasing teh discount rate. Doing so will raise the intrest rates.

    China's "overheating" economy is bad because it can quickly result in inflation. Signs of this, according to the video would be high inflation, pollution, quich economic growth, and such.

  10. andyxuon 29 Aug 2007 at 10:28 am

    Althrough a fast growing economy is always good for a country, there are certainly many negative points to consider.

    1. Due to the fact that almost everyone in China wants to "get rich quickly", the quality of production has decrease, confirmed by the recall of Mattell brand toys last month. Corruption is another result, in which government and corporational ties puts average citizens at an unfair disadvantage.

    2. Pollution on China's resource of land is a disasterous issue. Money made by exploiting the enviornment today will be paid in the future decades with ten-fold costs. The future consequences of what some of Chinese companies are doing to lakes, forests and the air is immeasurable.

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