China's financial regulatory reforms will become increasingly tough during the 14th Five-Year Plan period (2021-25). We should enhance financial regulatory transparency and the rule of law, improve the institutional framework of risk prevention, early warning, risk resolution and accountability, and keep refining the modern financial regulatory system.
Financial regulators should take proactive actions in preventing and mitigating various types of financial risks to keep the financial system safe and sound. As financial technology or fintech penetration deepens, we must take precautions against formation of any potential monopoly, in order to maintain order in the market and promote fair competition.
Moreover, we should play a leading role in pushing the financial sector to scale up serving the real economy, fulfill social responsibilities, and facilitate green finance and financial inclusion, so that individuals and businesses have access to useful and affordable financial products and services.
Regulators should also make strong moves to crack down on illegal fundraising and financial frauds, and remain highly vigilant against unauthorized investment and financing activities, to protect the legal rights and interests of consumers.
Reviewing the history of financial regulation in and out of China, we have realized that there are some important lessons for us to learn.
First, monetary economy is deeply rooted in the real economy. Serving the real economy is the financial sector's bounden duty. However, the modern banking history showed that there is the tendency for money to circulate solely within the financial system, rather than supporting the real economy.
As a result, one of the major tasks of financial regulators is to prevent capital deviating from serving the real economy.
Second, without adequate capital, financial business will run into difficulties sooner or later. The core of Basel principles, an internationally agreed set of measures developed by the Basel Committee on Banking Supervision, is to impose basic capital restrictions on bank lending to ensure that leverage ratios remain within a safe range.
Third, risks will inevitably go hand in hand with returns. Any investment that offers to pay unreasonably high returns with lower risk definitely warrants closer scrutiny, to check if it could be a fraud. Financial regulators must fight firmly against this kind of activities.
Fourth, it is important for China to continuously build a fair and trustworthy environment based on the rule of law. On the one hand, financial institutions should abide by business ethics and offer genuine financial services at fair prices. On the other hand, stakeholders, including shareholders and debtors, should also fulfill contracts according to laws and regulations, and not to escape from any debt obligations.
Fifth, we should be aware of the boundaries of financial innovation, which is a double-edged sword that will improve market efficiency but may also bring major risks. Regulators must seek advantages and avoid disadvantages of financial innovation.
At the early stage of development of internet finance in China, some online peer-to-peer lending platforms generated huge financial and social risks by conducting rule-breaking business activities under the guise of "innovation".
Sixth, central banks should carefully manage money supply as either deflation or inflation may cause systemic economic and financial risks. In the past, supply of money far exceeded demand for money in China several times, which led to double-digit price hikes in 1988 and 1993.
Seventh, China should resolutely curb real estate bubbles as housing is deeply associated with the financial industry. Currently, real estate-related loans accounted for 39 percent of newly issued loans of the total banking sector. A large amount of funds raised via bond, equity and trust issuance also entered the real estate sector, which is the biggest "gray rhino" risk for China's financial system.
Last but not least, it is of utmost importance to enhance corporate governance. Some small and medium-sized financial institutions were manipulated by major shareholders or had the problem of insider control. We should deepen financial reforms comprehensively and improve internal restraint mechanism of financial institutions.
Looking ahead, China will further strengthen the decision-making, coordination and oversight functions of the Financial Stability and Development Committee under the State Council, China's Cabinet, to improve coordination mechanisms among regulators.
Financial policies must coordinate closely with fiscal, industrial, employment and regional economic policies to facilitate a new dual-circulation development pattern.
In the meantime, the central government should improve instruction and guidance of local financial development and reform, as well as risk prevention and control.
The article is a translation of an excerpt from the Chinese original titled Refining the Modern Financial Supervision System by Guo Shuqing, Party secretary of the People's Bank of China, the central bank, and chairman of the China Banking and Insurance Regulatory Commission.