Although a "tight" monetary policy may result in more interest rates increases, the interest spread should be cut to encourage banks to innovate, a senior lawmaker and scholar said yesterday.

Cheng Siwei, vice chairman of the Standing Committee of the National People's Congress, said yesterday the central bank should increase the benchmark deposit rates more than the lending rates.

It is important to ensure that residents avoid depreciation of their savings to the level of negative deposits, Cheng said in a speech at Fudan University yesterday, adding that he made the comments as a scholar not as a lawmaker.

The squeezing of the interest spread, made worse by a faster pace of deposits rate increase, may cut the profits of banks. However, some good may come out of it if shrinking the interest margins for the lenders also spur them to diversify into more innovative businesses to boost profits, he said.

About 70 percent of Chinese banks' profits are generated from the interest spread, Cheng, 72, said.

The one-year benchmark deposits rate is 3.87 percent after five increases this year. But the rate still trails inflation, making savings unattractive and instead pushed funds out of deposits to stock market.

The benchmark Shanghai Composite Index has jumped 85 percent so far this year. Cheng is "cautiously positive" on China's stock market and said picking up good listed companies as investment targets is more important than focusing on the index's movement.

China will shift its monetary policy from "prudent" to "tight" next year to prevent its economy from overheating and will also move to curb inflation accelerating, the Central Economic Work Conference said on Wednesday.

Daniel Melser, a Moody's Economy.com senior economist, said the change in language used to outline the monetary policy reflects real worries in China about inflation, exuberant economic growth and investment, as well as stock market and real estate bubbles.

"This will almost certainly see further interest rate rises and hikes in banks' reserve requirements," Melser said.

China's consumer price index, the main gauge of inflation, rose to 6.5 percent in October, a record high in more than a decade.

(Shanghai Daily December 7, 2007)