CHINA has denied reports that US$28 billion had been siphoned off from state funds. However, there is no doubt that something must be done quickly to revamp the country's inefficient banking system. According to the director of the Monetary Research Institute of the People's Bank of China (PBOC), Qin Chijiang, broad consensus has been reached over the direction of reform of the country's rudimentary banking system. The rectification measures introduced in the past months can solve some immediate problems, but fundamental reform is necessary to establish a healthy banking system, he says. As a result, the drafting of laws regulating the central bank and commercial banks should no longer be delayed. ''Although the draft legislation is not perfect, it would be better to have in place than nothing at all,'' he said. ''A lot of chaos and irregularities in the banking sector arise out of the lack of regulations and standardised procedures,'' says Mr Qin. Under Beijing's blueprint to modernise its banking system, the first priority is to strengthen the role of the PBOC in exercising control over the economy and ensuring more balanced growth. But the PBOC is not going to be given full autonomy to perform its duties, because it will continue to be under the direct leadership of the State Council, China's cabinet. ''The most important job of the central bank is to stabilise the currency, without which many economic objectives will not be achieved,'' says Mr Qin. The traditional role of the bank as the treasury will be abolished, making it impossible for the Government to finance its expenditure by telling the bank to print more notes. In addition, monetary policy decision-making power will be centralised in the central bank to avoid the Government's macro-economic policy from being undermined by regional considerations and sectoral interests. Localities will have to follow strictly the interest rate and loan amount controls set by Beijing. But Mr Qin says there will not be major change to the structure of the PBOC, which consists of headquarters in Beijing and branches in various provinces and cities. An earlier proposal to set up regional headquarters to oversee monetary policies in more than one province will be shelved because of resistance from several sectors. The intention of the regional headquarters is to break up the traditional relationship between provincial branches and provincial governments. Bank officials often have to heed the demands of provincial leaders in meeting their targets for economic growth, sometimes at the cost of the national interest. Those opposed to merging of provincial branches also contend that a province is also a regional economy which deserve to have its own branch of the PBOC. ''In view of difficulties in implementing the plan, I think the proposal will be shelved,'' says Mr Qin. The second major area of reform is the development of a commercial banking system, which entails the setting up of policy-oriented banks and turning the four specialised banks into commercial institutions. In addition, non-bank services such as insurance, which are under the management of the PBOC, will be hived off from the banking system. These non-bank businesses will no longer be allowed to engage in activities such as receiving deposits or offering loans. Mr Qin also says there is an urgent need to develop capital and money markets to avoid abuses in the use of financial instruments. He says at present interbank lending is often used to finance investment for six months and some times a year. Kevin Chan, economist at Wardley Investment Services, says that by international standards, the banking system in China remains highly inefficient. Mr Chan agrees China should place emphasis on the development of financial markets which are essential for effective macro-economic control. While China plans to make the yuan fully convertible, parallel reform in interest rate policy is necessary, otherwise speculators will take advantage of the currency fluctuations, he adds. Mr Chan says that to remove the existing inefficiencies, future policy reform must be focused on three areas: Greater autonomy should be given to the PBOC so that its apolitical officials can take a longer-term view of macro-economic developments in the formulation of monetary policy. Monetary instruments should be developed along with deepening of the financial sector with market-determined interest rates in order to enhance the flexibility of monetary control. A new set of incentives needs to be put in place, requiring commercial banks to be made responsible for their profits and losses, which presupposes that their credit policy is tied to the lender's ability to repay.