Sheng Songcheng is the Dean of the China Chief Economists Forum Research Institute, a Professor of Economics and Finance at China Europe International Business School (CEIBS), and former Director General of the Investigation and Statistics Department of the People's Bank of China.

At present, the recovery of China's economy still faces uncertainties, making the roles of fiscal and monetary policies even more critical.

During the recent 2024 Lujiazui Forum special event — the CEIBS International Finance Roundtable Seminar and the CEIBS Lujiazui Finance 50 Forum Summer Meeting, Sheng Songcheng, a Professor of Economics and Finance at CEIBS and Senior Academic Advisor at the CEIBS Lujiazui International Finance Research Institute, stated, "Ultra-long-term special government bonds will continue to be issued in the future, and reserve requirement ratio (RRR) cuts are the main means for our country's monetary policy to cooperate with proactive fiscal policies at this stage. Against the backdrop of the current low excess reserve rate of financial institutions, liquidity can be effectively adjusted through RRR cuts." Recently, major institutions generally believe that China's interest rate cuts are constrained by a strong US dollar and the delayed expectation of interest rate cuts by the Federal Reserve, but the probability of RRR cuts still exists.

The Central Financial Work Conference held last year proposed, "To enrich the monetary policy toolkit, gradually increase the buying and selling of government bonds in the central bank's open market operations." Sheng Songcheng believes that China's government bond market scale has become the third largest in the world, with significantly improved liquidity, and the conditions for the central bank to inject base money by buying and selling government bonds in the secondary market are gradually maturing. However, this cannot be achieved overnight and requires a considerable amount of time, "For example, the frequency and scale of operations, the remaining maturity of government bonds held by the central bank, all of these are very important. Whether to buy and sell short-term, medium-term, or long-term government bonds, how to operate, these are all new issues for us and also require a large number of professional talents."

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This year's actual fiscal expenditure strength is significantly stronger than last year.

Sheng Songcheng believes that in order to cope with the slowdown in economic growth, this year's actual fiscal expenditure strength will be significantly stronger than last year.

The government work report this year proposed, "Strengthen counter-cyclical and cross-cycle adjustments of macro policies, continue to implement proactive fiscal policies and prudent monetary policies, and enhance the innovation and coordination of policy tools."

Sheng Songcheng said, "The innovation and coordination of policy tools mentioned in the report are mainly about fiscal and monetary policies. It is expected that for a considerable period in the future, China's macroeconomic regulation will be dominated by fiscal policy, with monetary policy providing support."

The government work report also proposed, "Starting from this year, it is planned to issue ultra-long-term special government bonds for several consecutive years, specifically for the implementation of major national strategies and the construction of safety capabilities in key areas. This year, 1 trillion yuan will be issued first."

"The so-called ultra-long-term special government bonds refer to those with a term of more than 10 years, including 20-year, 30-year, and 50-year bonds. We have issued them before, but not as consecutively as this time. This year, 1 trillion yuan will be issued first, and how much will be issued next year depends on the state of the economy next year," he said.In addition, according to the government work report, the combined total of the deficit, special bonds, and ultra-long-term special national bonds for 2024 amounts to 8.96 trillion yuan, surpassing last year's 8.68 trillion yuan.

"In fact, the number is even higher than this," said Sheng Songcheng, "On October 24th last year, the Standing Committee of the National People's Congress passed a resolution allowing the Ministry of Finance to issue 1 trillion yuan in special national bonds. By the end of last year, only 500 billion yuan of this 1 trillion yuan in special national bonds had actually been issued, with another 500 billion yuan remaining unissued. Considering that this 1 trillion yuan in special national bonds will mainly be used this year, the actual fiscal expenditure this year will be significantly stronger than last year."

By the end of May this year, the stock of social financing increased by 8.4% year-on-year, with an increase of 2.06 trillion yuan in social financing for May alone, while social financing in April was negative. One of the important reasons for the significant rebound in social financing in May is the issuance of government bonds.

In May, net financing from government bonds reached 1.2 trillion yuan, accounting for 59.2% of the increase in social financing for May, and net financing from government bonds in May accounted for nearly half of the total for January to May, including national bonds and local bonds, indicating a clear acceleration in the issuance of government bonds.

Reserve requirement ratio (RRR) reduction is the main monetary policy tool to support fiscal policy.

Faced with a large amount of government bond issuance, monetary policy will play an important role in supporting fiscal policy.

Among the monetary policy tools, Sheng Songcheng believes that the most important one at present is the reduction of the reserve requirement ratio. This is because most of China's national bonds and local bonds are purchased by commercial banks, with commercial banks holding about 70% of national bonds and about 82% of local bonds. The central bank uses the reduction of the reserve requirement ratio to meet the liquidity needs of commercial banks.

"The reduction of the reserve requirement ratio essentially turns the required reserves into excess reserves. Originally, they were required reserves that had to be kept at the central bank and could not be used, but after the reduction, commercial banks can use them. The reduction of the reserve requirement ratio will increase the funds that commercial banks can freely use, thereby better supporting the issuance of national and local bonds."

The possibility of reducing the reserve requirement ratio is also due to the current low level of excess reserve ratio in China's financial institutions.

Sheng Songcheng analyzed, "When China's excess reserve ratio was high, it was close to 8%, but at the end of the first quarter this year, it was only 1.5%. Although the timing of the reduction of the reserve requirement ratio is difficult to predict, it can be observed through several indicators, one of which is the excess reserve ratio. When the excess reserve ratio is high, there is no need to reduce the reserve requirement ratio, indicating that commercial banks have ample funds; when the excess reserve ratio is low, it indicates that commercial banks are relatively tight on funds, and at this time, the probability of reducing the reserve requirement ratio is relatively high. The lower the excess reserve ratio, the greater the probability of reducing the reserve requirement ratio."The coordination methods of fiscal and monetary policies between China and the United States differ. The holders of U.S. Treasury bonds are more diversified. By the end of 2022, the Federal Reserve held 20.7% of the total U.S. Treasury bonds, and overseas investors held 29.7%, with the remainder held by domestic private sectors (residents, businesses, various financial institutions) and the government. Since the pandemic, the Federal Reserve has purchased a large amount of U.S. Treasury bonds, injecting liquidity into the market, while also driving down the yields of secondary market U.S. bonds, which can reduce the coupon rates of newly issued U.S. bonds and alleviate the interest burden of U.S. debt.

Unlike the Federal Reserve's direct purchase of Treasury bonds, in recent years, the People's Bank of China's (PBOC) open market operations have mainly focused on reverse repurchase agreements and have continuously innovated policy tools, such as the creation of the Standing Lending Facility (SLF) in early 2013, the creation of the Pledged Supplementary Lending (PSL) in April 2014, and the creation of the Medium-Term Lending Facility (MLF) in September 2014. Financial institutions need to provide the PBOC with Treasury bonds or other high-credit bonds (such as policy financial bonds, local government bonds, etc.) as collateral. In the PBOC's balance sheet, these transactions are recorded as "claims on other depository corporations" on the asset side and "deposits of other depository corporations" on the liability side.

The buying and selling of Treasury bonds by the central bank will gradually become one of the monetary policy tools.

Previously, the view that "enriches the monetary policy toolkit and gradually increases the buying and selling of Treasury bonds in the central bank's open market operations" has suddenly heated up the market's discussion on whether China will start quantitative easing (QE), which occurred when economic data was still relatively weak and special Treasury bonds were to be issued continuously.

However, the consensus among all parties is that China will not implement QE at present. The aforementioned view may involve more improvements to the open market operation mechanism, shifting from using reverse repurchase agreements and various lending facilities to increasingly using government bond transactions to control financial conditions, which is a standard practice for central banks worldwide. But this is not the purchase of government bonds in the primary market, so it is different from the monetization of fiscal deficits. At the same time, the U.S. version of QE is an economic stimulus policy adopted after interest rates have been reduced to zero, with the method being the Federal Reserve's regular and quantitative bond purchases from the secondary market, and the direction and operation dates of open market operations (OMO) are not fixed.

Nevertheless, Sheng Songcheng believes that the buying and selling of Treasury bonds by the central bank will gradually become one of the tools for China's monetary policy operations. Currently, China's Treasury bond market scale has become the third largest in the world, with significantly improved liquidity, and the conditions for the PBOC to inject base money by buying and selling Treasury bonds in the secondary market are gradually maturing.

PBOC Governor Pan Gongsheng stated on June 19 at the 2024 Lujiazui Forum that gradually incorporating secondary market Treasury bond transactions into the monetary policy toolkit, the PBOC is strengthening communication with the Ministry of Finance to jointly study and promote the implementation. This process is overall gradual, and the issuance rhythm, term structure, and custody system of Treasury bonds also need to be studied and deepened in sync.

"It should be recognized that including Treasury bond transactions in the monetary policy toolkit does not mean to engage in quantitative easing, but rather to position it as a channel for base money injection and a liquidity management tool, with both buying and selling, and in combination with other tools, to jointly create a suitable liquidity environment," Pan Gongsheng stated.

Sheng Songcheng stated, "China's short-term Treasury bonds account for a smaller proportion, only 18%, while the U.S. is 34%. Adjusting interest rates through Treasury bond transactions requires Treasury bonds of various maturities, especially short-term Treasury bonds. This poses higher demands on the issuance rhythm, terms, and coupon rates of Treasury bonds."He believes that this also poses new demands on the operational capabilities of central banks. The Federal Open Market Committee (FOMC) of the United States operates daily to ensure that the federal funds rate remains within the target range. The central bank's routine buying and selling of government bonds present new challenges regarding the frequency, scale, and duration of holding government bonds. The Federal Reserve's balance sheet reduction can be achieved through two methods: not reinvesting at maturity and direct sales. Direct sales have a greater impact on financial markets, so the method of not reinvesting at maturity is usually adopted. If China's central bank also buys and sells government bonds in the secondary market, there will be a significant increase in the demand for operational methods and professional talent.

"The change in government bond pricing has a significant impact on the prices of other assets in the market because government bonds are risk-free assets and the basis for financial market pricing. The interest rates on government bonds have an important impact on fiscal policy, monetary policy, and the overall economy. Incorporating secondary market government bond trading into the monetary policy toolkit requires gradual research and promotion, as well as the cultivation of a large number of professional talents. This process is gradual and cannot be achieved overnight," said Sheng Songcheng.