$818.9 billion! The amount of China's foreign exchange reserve by the end of 2005, released by the central bank on Jan. 15, took people completely by surprise. The number is only $28 billion less than that of Japan ($846.9 billion), the largest foreign exchange holder in today's world, so it is highly possible that China may outrace Japan to become the No. 1 in a not very long time if the momentum continues.

Now comes the question: is it a blessing, after all, to have such an enormous forex reserve?

We have to admit that China is still a developing country that faces many uncertainties in its process of fast economic growth and system transition. In this case, sufficient forex reserve could help improve the country's international liquidity, boost its ability to cope with contingencies and financial risks and consolidate the world's confidence in China's economy and currency.

Adequate forex reserve also financially fuels reform and opening-up. For example, the recapitalization of $60 billion for the three state-owned banks, the Bank of China, the China Construction Bank and the Industrial and Commercial Bank of China, since 2004 has been fed by the forex reserve.

But there is another side of the story.

The sharp increase of China's exports and foreign investment in recent years have led to the surplus of both the current account and capital account, which is reflected by forex swarming in and oversupply on the inter-bank foreign exchange market. The central bank then has to buy a host of foreign exchange to keep the RMB exchange rate basically stable at a reasonable, equilibrium level.

However, that costs the equivalent value of yuan (which is called the RMB counterpart of foreign exchange reserve), which in turn brings more money base supply and pushes the money and credits up.

The sharply increasing forex reserve and the RMB counterpart of forex reserve make it difficult to guarantee the independence and flexibility of the country's monetary policy. As a result, the government's macro-regulation efforts will be less effective than it should have been.

The People's Bank of China had targeted at 15 percent increase in broad money supply by the end of last year. But it turned out to be 17.57 percent due to the swelling equivalent RMB to official forex reserve.

The upsurging foreign exchange reserve has also sparked international concern over China's trade and yuan value. That adds risks of disputes which is not favorable to China's economic development.

China needs to improve its foreign trade structure and utilization of foreign fund. Energy consuming, pollution-making exports and resources exports should be restricted. Imports of advanced technologies and equipment should be encouraged. Foreign investment should be channeled to right directions.

China needs to continue pushing forward the reform on the regime of foreign exchange management. A more market-oriented system for banks' purchase and sale of foreign exchange will better satisfy the demands for forex by individuals and organizations. More trade and investment facilitation measures, including simplifying procedures and relaxing limits, should be taken to encourage enterprises tap the overseas market.

China also needs to promote the management of its forex reserve and make the forex reserve generate more returns while guaranteeing the security and liquidity of it.

By People's Daily Online