TO THE POINT: The substantial rise in foreign direct investment (FDI)--10 percent--and fixed assets investment--25 percent-was the last straw that prompted the Chinese Government to take action by instituting a package of policies aimed at taming the overheating economy and excessive liquidity. The Chinese central bank raised lending and deposit interest rates for the second time this year, and the reserve requirement ratio was raised for the fifth time this year. They also allowed the daily yuan exchange rate to float within 0.5 percent from the previous mark of 0.3 percent. Such a monetary policy package is unprecedented and demonstrates the central bank’s determination to let air out of the hot markets. In April, foreign trade rebounded and the trade surplus hit $16.68 billion, $10 billion more than what it was in March. However, as a research report revealed, some of the trade surplus was actually driven by fake trade, through which international speculative money flowed to the Chinese mainland. The rising trade surplus contributed to increasing foreign exchange (forex) reserves. The Chinese Government has decided to invest $3 billion of its forex reserves into U.S. private equity firm Blackstone Group LP, demonstrating that the country is finding alternatives for its mounting forex reserves instead of just buying U.S. treasury bonds. The second round of the China-U.S. strategic economic dialogue has achieved positive results. In the financial sector, China agreed to increase the quota QFIIs can invest in the Chinese capital market from $10 billion to $30 billion.

By LIU YUNYUN

Central Bank Resolute

The People's Bank of China, the central bank, is very determined.

On May 18, the central bank announced a package of policies, demonstrating its strength and desire to cool down excessive enthusiasm for the stock market.

It again restricted banks' lending ability by raising the reserve requirement ratio to 11.5 percent-the fifth raise so far this year-altogether freezing 800 billion yuan in liquidity.

It also raised the benchmark one-year interest rate by 0.27 percent to 2.79 percent. One noticeable occurrence is that the one-year lending interest rate is only up 0.18 percent.

The asymmetry of deposit and lending interest rate hikes shows that the central bank actually encourages consumption-driven loans and won’t be too hard on consumers. At the same time, raising the reserve requirement demonstrates the bank’s determination to trim excessive investment.

Tao Dong, chief economist with Credit Suisse First Boston, said this round of interest rate hikes would not be effective enough, and China is still in a period of negative interest rates. He said the raise wouldn’t damage the banks’ profitability, as the interest rate for current accounts, which accounts for 46 percent of all deposits, remained unchecked.

The primary goal of the first two policies can be seen as an effort to tame the white-hot stock market. However, like the last few efforts by the central bank, this round did little to cool the market in the following days. The benchmark Shanghai Composite Index soared 3.56 percent to 4173 points on May 23 compared to what it was on the day the policies were announced.

Confronted with the increasing awareness of the stock market by ordinary citizens these measures are helpless. The last three times interest rates were raised, stocks boomed instead of busted.

In another move, the central bank allowed the yuan exchange rate to float at a wider range-plus or minus 0.5 percent each day-from its previous range of 0.3 percent. This move is believed to be catering to U.S. critics who allege that the U.S. trade deficit with China is due to an undervalued Chinese currency. Meanwhile, the strategic economic dialogue between China and the United States held in Washington may have contributed to this round of policy changes.

The yuan’s daily permitted trading range had remained at 0.3 percent for two years. To avoid drastic currency appreciation and potential financial risks, it is a must that the central bank take moderate steps to revalue the yuan. Drawing from the lessons learned from the Asian financial crisis in 1997, an emerging economy should not heedlessly open its financial market fully before it is ready to absorb the risks.

Anyhow, loosening on the yuan is an important step forward and lays a solid foundation for the currency's full convertibility.

Blackstone’s Lucky Draw

Blackstone Group LP doesn't have much to worry about for its June initial public offering (IPO), because China will invest $3 billion in this alternative investment company.

Blackstone originally planned to raise $4 billion in its IPO. Adding China's $3 billion, Blackstone enlarged its IPO scale to $7 billion. China has agreed to hold Blackstone shares for at least four years without voting rights.

A huge trade surplus and the increasing FDI pushed China’s forex reserves to a world leading $1.2 trillion by the end of March. That money is mostly invested in U.S. treasury bonds, less risky but with low yield. In order to find better ways to invest this money, the Chinese Government has decided to form a state forex reserve investment company, which is due to be established at the end of this year.

Lou Jiwei, head of the reserve investment company working group, said, “We are very pleased to be able to make the forex reserve investment company’s very first investment in such a well-respected firm as Blackstone.”

The government’s participation will also boost Blackstone’s performance in the Chinese market, where it is competing hard with rival Carlyle Group. In January, Blackstone hired Antony Leung Kamchung, former Financial Secretary of the Hong Kong Special Administrative Region, to operate its business on the Chinese mainland, as well as in Hong Kong and Taiwan. The remarkable political background of Leung gives the company an edge in doing business throughout China.

Foreign Trade Rebound

After the drastic export drop in March of around $83.4 billion, China's exports rebounded in April to $97.4 billion. The trade surplus jumped to $16.88 billion in April from a measly $6.87 billion in March.