Zhang Ming and Liu Yao: How to help achieve common prosperity through financial means?

Authors and: Zhang Ming, Liu Yao (Zhang Ming is deputy director of the Institute of Finance of the Chinese Academy of Social Sciences, deputy director of the National Finance and Development Laboratory, and director of the China Chief Economist Forum)

Note: This article was published in China Finance, No. 17, 2021, and has been condensed when published, so please be sure to indicate the source when reprinting.

The outline of the 2035 long-term goals issued at the end of October 2020 proposes to achieve the goal of achieving the goal of achieving the goal of achieving the level of per capita GDP reaching the level of moderately developed countries, the gap between urban and rural areas and the gap between residents' living standards, and making more obvious substantive progress in the common prosperity of all people. On August 17, 2021, the tenth meeting of the Central Financial and Economic Commission emphasized the promotion of common prosperity in high-quality development.

At present, the global economy is mired in a century of major changes that have not been seen in a century of "low growth, low inflation, low interest rates, high debt, and high income distribution imbalances", and achieving common prosperity is a long-term and arduous task. Globally, economic growth and financial development do not appear to have mitigated income and wealth inequality. For example, data from the Fed's Consumer Finance Survey show that in the decade following the subprime mortgage crisis (2007-2016), the wealth distribution gap widened significantly. Only the top 10 percent of the U.S. high-income group achieved a net increase in wealth, while the bottom 25 percent of low-income people saw a 37 percent increase in wealth. For example, the most important demand of the "Occupy Wall Street" movement in the United States in 2011 was to solve the problem of "1% of the rich own 99% of the wealth", and the US financial system is also the spearhead of this movement. For another example, Credit Suisse's Global Wealth Report 2021 shows that 12.2% of the world's population will have 84.9% wealth in 2020, and wealth differentiation is extremely serious.

In recent years, China's income inequality has eased, but wealth inequality has deteriorated significantly. On the one hand, China's Gini coefficient fell back to 0.465 in 2019 after reaching a peak of 0.491 in 2008, but it is still above the international warning line of 0.4. On the other hand, China's wealth Gini coefficient will rise to 0.704 in 2020, that is, the top 1% of residents own 30% of the total wealth of society. Whether or not we can achieve common prosperity is not only related to whether China's economy can achieve consumption expansion and consumption upgrading, but also determines whether China can successfully build a new development pattern of dual circulation with internal circulation as the main body and internal and external circulation promoting each other.

Since the reform and opening up, the development of the financial industry has promoted the transformation of savings and investment and the allocation of funds and credit, and has become an important driving force for the rapid growth of China's economy. Traditionally, the development of the financial sector will promote the interests of high-income groups, which may worsen income distribution. However, the financial sector in socialist countries is expected to play a very different role.

So at this stage, how should China help achieve common prosperity through financial means? The author believes that we can give full play to the redistributive effect of financial policies, vigorously promote the innovation of financial instruments, and systematically strengthen the top-level design of the innovative financial system.

First, give play to the redistributive effect of financial policies

One of the cores of common prosperity is the issue of redistribution. In order to promote common prosperity in high-quality development, we should correctly handle the relationship between efficiency and fairness, and build a basic institutional arrangement for the coordination of primary distribution, redistribution, and tertiary distribution. The theoretical logic of helping to achieve common prosperity through financial means is to give play to the positive redistributive effect of financial policy.

The first is to give play to the positive redistributive effect of aggregate monetary policy. Traditionally, expansionary monetary policy will drive cyclical prosperity, reduce unemployment, and narrow the income distribution gap. The positive redistributive effect of monetary policy mainly plays a role through three channels: First, the channel of income heterogeneity. An expansionary monetary policy will reduce the cost of financing for businesses, raise commodity prices, and promote the expansion of reproduction and employment of firms. This is beneficial to the middle and low income groups with labor remuneration as the main source of income, and the high-income people who are inflexible to wage changes have little impact, thus helping to narrow the income gap; the second is the Fisher effect channel. Expansionary monetary policy that triggers unintended inflation will lead to a revaluation of the nominal balance sheet. Creditors in the name of high-income earners will suffer losses, while nominal debtors with low-income earners will benefit from them; the third is the balance sheet channel. Expansionary monetary policy will increase the assets of companies with damaged balance sheets, easing the unfavorable liquidity and deflationary spirals. This helps SMEs and low-income borrowers increase their incomes, thereby alleviating income inequality. It is worth mentioning that if the expansionary monetary policy is implemented in conjunction with the macroprudential policy that limits the leverage ratio, the positive redistributive effect of monetary policy will be significantly enhanced.

The second is to give play to the positive redistributive effect of structural monetary policy. The implementation of structural monetary policy can play a more precise regulatory function of monetary policy to a greater extent. This is because China's financial market is dominated by indirect bank financing, and the non-marketization factors of domestic interest rates weaken the financial pricing function, superimposed on the implicit guarantee of the government, resulting in rigid payment, homogenization of financial institutions, insufficient competition in the financial industry, etc., which is prone to structural mismatch and distortion of financial resources. These problems cannot be solved through conventional monetary policy. Although the original intention of structural monetary policy is not to adjust income redistribution, structural monetary policy tools such as small reloans for agricultural support, targeted RRR reduction, and targeted medium-term lending facilities (TMLF) have the effect of guiding credit flows and strengthening incentive compatibility, which helps guide the flow of funds to weak links in economic development, thereby narrowing the gap between urban and rural development in the region, alleviating the financing difficulties of small and medium-sized enterprises, and ultimately promoting common prosperity.

The third is to give play to the positive redistributive effect of credit policy. As an auxiliary to monetary policy, credit policy can play a dual role in balancing economic aggregates and optimizing economic structure. To give full play to the redistributive effect of credit policies, it is necessary to pay attention to the combination of policies. For example, credit leverage can be used in harmony with tax leverage to promote the dual balance of credit revenue and expenditure and fiscal revenue and expenditure, and to improve income distribution while stabilizing economic growth. Another example is the use of credit policies in conjunction with macroprudential regulation to improve income distribution while preventing financial risks.

Second, promote the innovation of financial instruments

In the practice of financial markets, the use of some innovative financial instruments can significantly improve the efficiency of capital allocation, reduce transaction costs, and help promote the realization of common prosperity under the guidance of relevant policies.

First, vigorously develop digital finance and inclusive finance. Compared with traditional finance, the combination of "digital finance + inclusive finance" has significant advantages in reducing the threshold of financial transactions, promoting information circulation and price discovery, and opening up the "last mile" of financial services. The development of digital finance and inclusive finance can significantly alleviate income and wealth inequality: first, digital finance and inclusive finance have expanded the accessibility, accessibility and payment convenience of financial resources by innovating savings, credit and payment means; second, the long-tail market covered by digital finance and inclusive finance includes a large number of low-income groups excluded from the formal financial system, improving the return on assets and liquidity of the latter; third, digital finance and inclusive finance have reduced information asymmetry. Fund matching and credit monitoring can be carried out more effectively, helping to close the income gap. As the popularity of digital technologies increases, the "digital divide" stemming from the imbalance in development between regions and groups is expected to gradually disappear.

The second is to vigorously develop green finance. In recent years, the coupling of green finance and economic growth has been increasing, and there is a significant spatial dependence between the two. Green finance includes green credit, green insurance, green bonds, green funds, green stock indices, green trusts and carbon finance, which can improve the efficiency of capital allocation from multiple dimensions and play a prominent role in rural revitalization, poverty alleviation and poverty reduction. In the field of agriculture, green finance is an important support for agricultural supply-side reform, and green finance innovation can support agriculture to adapt to climate change and achieve sustainable development. In the rural sector, green finance can promote the green transformation of rural enterprises, improve their business performance and environmental performance, and improve their financing constraints, thereby increasing rural employment and farmers' incomes. In the field of farmers, green finance can help farmers increase their income and become rich by revitalizing resources and seamlessly connecting traditional production methods with new formats.

The third is to vigorously develop pension finance. At present, China is facing the deep-seated problems of declining fertility rate and increasing aging, and the sustainability of the model of over-relying on finance to provide basic old-age insurance for a long time is facing a huge test. Therefore, pension finance urgently needs rapid, orderly and sustainable development. Pension finance can promote the reasonable and orderly transfer of wealth between different generations and groups, and has long-term logical consistency with the social security system that regulates income redistribution. Through market-oriented means, pension finance enables relevant capital flows to achieve effective appreciation and rational distribution of social wealth through the financial system, thus helping to promote common prosperity. In the process of practice, one should promote the financial system's all-round support for pension finance, and cooperate with fiscal and taxation policies; second, we must expand the service objects of pension finance, reduce the service threshold, and better play the inclusive and redistributive effects of pension finance.

The fourth is to actively develop sovereign wealth funds. Sovereign wealth funds use sovereign countries' reserve assets to make long-term diversified financial investments around the world, and the returns from investments they obtain can increase a country's overall national welfare and promote the country's economy's intergenerational sustainable growth. Depending on the purpose for which they were established, the mechanisms by which different types of sworn wealth funds play a role in mitigating wealth inequality vary widely. For example, the Stabilization Fund was originally established to increase a country's wealth through the profitability of the fund, prevent significant fluctuations in economic growth after resource depletion, and achieve the purpose of smoothing national income across periods. For another example, the Pension Reserve Fund was created to cope with the impact of an aging society, improve the pension insurance system, and smooth national wealth across periods. For example, the Strategic Fund was created to meet the needs of national development strategies, enhance the competitiveness of domestic enterprises, and increase national wealth. With the passage of time, some of the initial stabilization funds and strategic funds have gradually changed to the function of smoothing wealth across generations under the impact of aging.

Fifth, actively develop ESG theme funds. ESG funds mainly measure whether listed companies have a sense of social responsibility and whether they have sustainable development potential. Relevant data shows that the stocks of companies with a stronger sense of social responsibility are generally more stable, have higher returns, and can better cope with the crisis of trust. In the process of China's economy moving toward high-quality development, more attention will be paid to fairness and more emphasis will be placed on three distributions. Therefore, public welfare charity and the concept of social responsibility represented by the ESG fund are expected to become an accelerator of common prosperity. Listed companies that are willing to assume more social responsibilities will be trusted by more institutional investors in the capital market, and are expected to receive more incentives and inclinations at the policy level, which will undoubtedly help to open up a virtuous circle of promoting common prosperity. In fact, the popularity of EGS investment has also helped to force china's economy to make structural reforms such as green sustainable development, intergenerational sustainable development, and financial inclusion.

Third, strengthen the top-level design of the innovative financial system

To better play the positive redistributive effect of financial policies and better use innovative financial instruments to promote common prosperity, it is inseparable from the all-round support of the innovative financial system. To build an innovative financial system, it is necessary to carry out a systematic and meticulous top-level design.

The first is to deepen the structural reform of the financial supply side. At present, there is still a lot of room for improvement in the function of China's financial market to achieve resource allocation, and it is facing problems such as the low degree of marketization of factor pricing, the distortion of the financial structure, the non-functional expansion of financial institutions, and the unclear relationship between the market and the government. For example, China has not yet completed the reform of interest rate marketization and exchange rate marketization, in this context, the bank's interest rate pricing autonomy is weak, and the ability of the exchange rate to mitigate external shocks needs to be strengthened, which can easily lead to the positive redistribution effect of financial policies cannot achieve the expected effect. For another example, in the context of China's economic growth entering the new normal, the financing difficulties of private enterprises under the indirect financing model are highlighted, and the proportion of RMB loans in new social financing does not fall but rises, and the financial structure dominated by indirect financing is difficult to match the financial needs of the new development pattern, and it is also difficult to play the role of financial instruments in reducing poverty and reducing wealth inequality. Therefore, in order to achieve common prosperity, it is necessary to deepen the market-oriented reform of factor pricing, promote the structural optimization of the financial market, and realize the functional development of financial institutions, so as to further improve the resource allocation efficiency and price discovery function of the financial market.

The second is to support the innovation of the financial system. The key to the innovation of the financial system lies in the establishment of an innovative financial system with lower costs, shared risks, shared benefits, and stronger price discovery functions. The first is to adhere to the principle of market neutrality and give equal market entity status to different groups, institutions and traders. The second is to optimize the structure of the financial market, rationally allocate the structure of direct and indirect financing, bond financing and equity financing, promote the IPO registration system, and improve the multi-level multi-functional capital market system. The third is to build a unified and complete market system and break the multiple divisions of the money market, the bond market and the credit market. The fourth is to give full play to the advantages of financial technology, reduce the cost of a single financial business, improve the availability of financial services, and encourage financial product innovation. Building a financial system that supports innovation through the implementation of these initiatives can effectively avoid financial bias and financial resource mismatch, thereby contributing to common prosperity.

The third is to prudently and gradually promote financial opening up. In general, the more open the financial market, the stronger the ability of financial participants to use financial resources to obtain benefits and reduce risks. In particular, with the deepening of financial globalization, the price discovery and resource allocation functions of the global financial market have been significantly enhanced. More and more Chinese-funded enterprises are carrying out investment and financing activities abroad, optimizing the investment and financing model of Chinese enterprises and obtaining more considerable benefits, which naturally helps to promote the realization of common prosperity. At the same time, international institutional investors hold a more diversified investment portfolio and have stronger anti-risk capabilities, and encouraging foreign investors to invest and raise funds in China is conducive to building a more mature domestic financial market. However, under the premise that the domestic economic growth model is being transformed, the reform of factor marketization has not yet been completed, and the existing financial risks have not yet been fundamentally digested, the subsequent financial opening should follow a prudent and gradual approach to avoid triggering systemic financial risks. In recent years, the Chinese government has significantly accelerated the opening of domestic financial markets to foreign financial institutions. On the one hand, the current investment quota restrictions for QFII and RQFII have been fully relaxed. On the other hand, at present, there are already financial institutions such as wholly foreign-owned commercial banks, securities companies, fund companies, and leasing companies in China. Under the premise of accelerating the opening up of financial markets, the opening of the capital account should be particularly prudent. The author's research points out that the large-scale outflow of cross-border short-term capital, and the mutual reinforcement and superposition of the pressure of RMB depreciation, may become the most important trigger factor for triggering China's systemic financial risks. Therefore, the Chinese government should retain appropriate cross-border capital controls, especially the control of high-risk subjects such as cross-border bank lending (other investments), capital flows through underground channels, and cross-border flows of derivatives. Proper capital account control is The last firewall for China to prevent and resolve systemic financial risks, and it must not be easily dismantled.

The fourth is to strengthen financial supervision. Preventing the outbreak of systemic financial risks is the bottom line guarantee for promoting common prosperity through financial means. This is because, whenever a financial crisis breaks out, it will eventually have a more negative asymmetrical impact on low- and middle-income groups. Strengthening financial supervision can effectively reduce speculative arbitrage and alleviate wealth imbalances exacerbated by market loopholes. First of all, financial institutions should improve their ability to deal with systemic risks, limit the position of risk assets, and restrain excessive risk-bearing behavior; secondly, regulatory authorities should control the risks in key areas and key industries, and do a good job in systematic and timely monitoring and early warning. At present, the more important financial risks include debt risks between local governments and local state-owned enterprises, real estate-related risks, risks related to small and medium-sized financial institutions, and non-performing loan risks of commercial banks; third, the central government should deepen the overall coordination of fiscal policy, monetary policy, macro-prudential supervision, and micro-prudential supervision, attach great importance to the endogenous nature of financial risks and the lag of relevant policies, and keep the bottom line of preventing systemic financial risks.

In summary, promoting common prosperity is one of the most important goals for China to achieve high-quality development in the next stage. To help achieve common prosperity through financial means, we should give play to the positive redistributive effect of financial policy, cooperate with financial policy through innovative financial instruments, and build an innovative financial system by strengthening the top-level design. Finally, it is worth mentioning that in order to better promote common prosperity at this stage, it is necessary to coordinate financial policy and fiscal policy more closely, and to narrow regional disparities, urban-rural disparities, and income and wealth inequalities within the residential sector as soon as possible through precise efforts through relevant policies, so as to enhance the inclusiveness and sustainability of economic growth.

(Author Affilications:Institute of Finance, Chinese Academy of Social Sciences, Institute of Finance and Economic Strategy, Chinese Academy of Social Sciences)