In March, the Communist Party of China Central Committee and the State Council, China's Cabinet, published an institutional reform plan, which includes two major reforms for the People's Bank of China, the country's central bank — an adjustment of its responsibilities and a reform of its branch institutions.

The adjustment of the PBOC's responsibilities will help the central bank focus on monetary policy formulation and macroprudential management, establish a modern central bank system and improve its ability to serve the real economy.

In a key report delivered at the 20th National Congress of the CPC, it was stressed that the country should push ahead with several major tasks in deepening structural reform in the financial sector, among which modernizing the central bank system was ranked as the first task.

Accordingly, a central bank mechanism that facilitates currency stability, full employment, financial stability and the balance of international payments should be established — a task that will get a boost from the PBOC's duty adjustments.

Under the reform plan, part of the PBOC's duty — the supervision of financial holding companies and other financial groups as well as the protection of consumers of financial products — will be transferred to the national financial regulatory administration, a new body that will oversee all parts of the financial sector except the securities industry.

The adjustment will not only promote coordinated supervision of the increasingly intertwined sections of the financial industry, but also help the central bank focus on monetary policy formulation and macroprudential management.

The more focused policymaking function of the PBOC will help modernize the central bank system and should not be simply taken as a lessening of the PBOC's role.

Enriching the toolbox

With the adjustment taking effect, the central bank will likely continue its efforts to ensure reasonable, stable money supply growth and credit expansion, maintain reasonably ample liquidity via various tools and improve monetary policy formulation to make it more forward-looking, flexible and effective.

Structural monetary policy tools are expected to be further used to incentivize more funding to flow into key areas of the real economy, such as agriculture, private businesses and small and micro enterprises.

The central bank is set to further support financial institutions in providing funding for carbon-reduction projects at preferential lending costs, meet companies' needs to finance technological innovation and equipment upgrades and put into place measures to ensure the delivery of unfinished housing projects.

In terms of macroprudential management, the central bank is expected to further improve the macroprudential policy framework to enhance its ability to monitor, evaluate and warn against any systemic risks while enriching the relevant toolbox.

Efforts should also be made to strengthen the supervision of systemically important financial institutions, including ensuring that the lenders meet additional regulatory requirements on time.

Another key aspect of the PBOC's agenda in the future will be deepening market-oriented reforms regarding interest and exchange rates.

The central bank is expected to further leverage the market-oriented mechanism of deposit rate adjustments, stabilize banks' liability costs and strengthen the loan prime rate reform, so that the financing costs of businesses and consumers can be tamped down while remaining generally stable.

The principle that market forces play a decisive role in exchange rate formation will be insisted upon in order to maintain reasonable, balanced exchange rates of the renminbi with greater flexibility.

Strengthening branches

Meanwhile, reform of the PBOC's branch institutions will help strengthen coordination and cooperation between PBOC branches and local governments, enhancing the country's ability to prevent and resolve local financial risks.

A key point of branch reform is to remove regional branches that each oversees in multiple provinces and instead set up 31 provincial-level branches along with five separate branches in the cities of Shenzhen, Guangdong province; Dalian, Liaoning province; Ningbo, Zhejiang province; Qingdao, Shandong province and Xiamen, Fujian province.

In addition to rearranging the central bank's branches, the institutional reform plan also requires reforming the local financial supervision system.

The reform seeks to establish a local financial supervisory model dominated by local agencies of central financial regulators. Financial regulatory bodies set up by local governments should specialize in supervision and no longer function in the name of "financial work bureaus" or "financial offices".

This will help solve the conflict between the multiple functions of local governments' financial regulatory bodies, which have been responsible for investment promotion and financial development apart from supervision.

Behind the simultaneous reforms of the central bank and local financial regulatory agencies are the shortcomings of the existing regulatory system.

Such problems as hidden local government debt, defaults of privately offered financing instruments and unclear boundaries of related-party transactions have exposed the loopholes in the local financial regulatory system, especially uneven regulatory standards among different regions and the inadequate professionalism of some local regulatory bodies.

The above phenomena also reflect that the central bank's regional branch system, established more than two decades ago, is no longer compatible with the current situation of the country's financial system.

Branch system history

The background of establishing the regional branch system was that in the early 1990s, local governments increasingly intervened in monetary policy formulation and banking supervision by the central bank's local branches. The PBOC, therefore, abolished its 31 provincial-level branches in 1998 and set up nine cross-regional branches.

The regional branch system worked at the beginning, strengthening the central bank's independence. However, with the continuous development of the country's financial system, it has become more difficult for the regional branches to implement cross-provincial supervision.

Regional branches found difficulties striking a balance between the different attributes of the economy in various provinces and coordinating with local governments in policy implementation. In fact, how to reform central bank branches has drawn much attention in recent years.

Now, the decision to restore the provincial branch system can help strengthen coordination and cooperation between the central bank's branches and local governments, thus enhancing the transmission of monetary policy and better serving the real economy.

Meanwhile, abolishing the central bank's county-level sub-branches is conducive to streamlining State institutions and lifting supervisory efficiency.

These reforms of central bank branches will work together with the reform of the local financial regulatory system to better deal with the risks among local financial institutions and markets while strengthening macroeconomic adjustments at the local level.

Better focus

In short, this round of PBOC reforms will enable the central bank to further focus on monetary policy formulation and macroprudential management, and help better coordinate and cooperate with local governments. The moves will help create a smoother transmission of monetary policy, strengthen monetary policy's support for the real economy and enhance the country's ability to prevent and resolve local financial risks.

He Qing is a professor at the Renmin University of China's School of Finance and a key member of the China Macroeconomy Forum. Hu Tong is an assistant researcher at the Renmin University of China's School of Finance.