The rate of interest and household financial saving in China\u27s transitional economy

The development literature has long emphasized the critical roles of the real rate of interest and of household saving for mobilizing and allocating financial resources, securing price stability and fostering economic development. However, there is no consensus among development economists with regard to the relationships among these variables. The Chinese economy in recent years has been in a transition from a centrally planned economy to a combined planned and market economy. Economic decentralization, embarked on by the government in the late 1970s, has allowed market mechanisms including interest rates to play more active roles in the saving-investment process. Corresponding to the overall structural adjustments in the economy, China\u27s financial system has also undergone substantial changes. The state budget no longer monopolizes investment financing, and state banks have become primary financial intermediaries. Household saving is now the principal source of domestic savings and has increased rapidly. Against this background, this dissertation presents an empirical analysis of the sensitivity of household saving in China to changes in the real interest rate. The major conclusion of the dissertation is that the real interest rate has substantial impact on the volume of household saving in China, with changes in inflationary expectations playing an important role. Specifically, a positive correlation is found between real interest rates and the growth of household financial savings. Changes in real interest rates are also associated with changes in the composition of households financial savings. This implies that interest rate policies can play an important role in resource mobilization for China\u27s economic development. As households adjust their financial portfolios when faced with uncertainty, a high priority for the government is to set the level of nominal interest rates in line with the public\u27s changing inflationary expectations. This will require that the interest rate policy be more flexible in both its adjustment over time and its term structure. A full-fledged role for interest rates in the efficient allocation of financial resources will not be achieved in China\u27s transitional economy until the demand of the state enterprises for investment financing also becomes sensitive to interest rate changes. This calls for closer coordination between the government\u27s financial and economic policies