Iikka Korhonen: This paper offers empirical estimation of “implicit” interest paid on deposits by Chinese banks. It argues that because of explicit interest rate caps, Chinese banks have been forced to offer other monetary rewards to attract deposits. Moreover, these implicit interest rates are almost comparable in size to explicit interest rates, or those allowed by the regulator.
I find the empirical results quite believable, and they have an important implication for interest rate liberalization in China (which has already happened): Actual effects of liberalization on banks’ behavior and, for example, profitability may be much smaller than many people previously thought. This is an important result for many reasons. First, banks’ financial standing post-liberalization might be much better than we previously thought, as they are able to reduce implicit interest payments. Second, the stability of the banking sector need not be jeopardized because of interest rate liberalization per se; banks...