The Effect Of Shadow Banking On China’s Monetary Policy Objectives

In recent years, financial market system has showed a diversified trend of development, along with the deepening of financial innovation. Because of uneven liquidity distribution in the financial markets, uneven supply and demand of financial resources, separate supervision and mixed operation, shadow banking in China has developed rapidly. With the growing size of shadow banking, our financial structure and financial system has undergone complex changes, and these changes impact monetary policy which mainly rely on commercial banking system for conducting policies. To some extent, shadow banking has changed the financial structure in China, because of the joint liquidity creation mechanism together with traditional commercial banks and the liquidity creation mechanism within shadow banking system,which has affected the controllability and scalability of intermediate target of monetary policy such as monetary supply and interest rates, which have harmed the impact of transmission mechanism of monetary policy such as credit transmission mechanism and interest rate transmission mechanism, and further affect the regulatory effects of monetary policy. As the shadow banking operates different effects on monetary policy under different economic growth states. This article chooses MS-VAR model, characterizes China’s economic growth state into two district regime:moderate and rapid economic growth state and rapid economic growth state and chooses the money supply, the benchmark interest rate, the gross domestic product as variables to study asymmetry effects of shadow banking on monetary policies.Firstly, this paper states the research background, significance, research methods and ideas. Then it combines relevant literatures of both domestic and foreign scholars, including the definition of shadow banking, the research on liquidity creation mechanism and its influence on monetary policy objectives. And it presents innovations and deficiencies, lays the overall framework for study.Secondly, combined with China’s specific reality, this paper focuses on the development and diversified product to have an overview of China’s shadow banking. This paper contributes development motives of shadow banking to four aspects:financial innovation under financial repression, uneven liquidity distribution, investment transformation of institutions and individuals and regulatory arbitrage under stringent regulatory standards. Therefore, entrusted loans, trust loans, undiscounted bankers’ acceptances, private loan companies and other diversified products account for growing shares in private and public’s investment. In the development of China’s shadow banking, China’s economic growth has played a significant role and the growth trajectory of China’s economic development and shadow banking fit to a certain extent. So this paper characterizes China’s economic growth state into district regime and investigates different effects of shadow banking in different economic growth state.Thirdly, this paper analyzes the effect of shadow banking on monetary policy. By analyzing the liquidity creation process within the shadow banking system and the one impacting traditional commercial banking system, analyzing the way and intensity it works on money supply, interest rates, other monetary policy benchmark targets and the implement of central bank’s monetary policies in different economic growth state.Fourthly, based on the above theoretical analysis, this paper conducts empirical researches on the asymmetric impact of the shadow banking on monetary policy objectives using econometric statistical methods, based on MS-VAR model, with quarterly data for variables of the scale of shadow banking, broad money supply M2, financial market benchmark interest rate (one month weighted average interbank interest rate), gross domestic product (GDP) selected from 2004Q2 to 2015Q2, and get the empirical results of cointegration test, smooth probability analysis, transition probability matrix, parameter estimation.Finally, based on qualitative analysis and empirical analysis, combined with practical situations, the following conclusions can be drawn:(1) China’s economic growth tend to be in moderate and rapid growth state, showing a "new normal" characteristics. (2) The shadow banking effects differently on monetary policies in different economic growth state. (3) The shadow banking works more intense on money supply, when compared with benchmark interest rate in the same economic growth state. This paper puts forward with the following suggestions:(1) China should regulate the shadow banking system. (2) Shadow banking should be fully integrated into intermediate monetary policy objective. (3) Interest rate liberalization should be continually promoted. (4) The nonlinear effect of shadow banking on monetary policies should be considered.