MNI ANALYSIS: PBOC Q2 Report Hints at New Reverse Repo

--Low M2 Growth And Low Excess Reserve Ratio Won't Change PBOC Monetary Policy

Stance

--New NCD Rules Won't Have Big Negative Impact on Banks

--Investors Should Follow Drafting Process for Unified Asset Management Product

Rules

     BEIJING (MNI) - The People's Bank of China is likely to introduce new types

of reverse repos in the near future, the central bank's second quarter monetary

policy report hinted.

     "In order to avoid the constant loosening or tightening of liquidity

conditions that have caused the misinterpretations of steady and neutral

monetary policy, open-market operations will enhance the flexibility of actively

injecting and draining [liquidity], and research ways to increase the terms of

reverse repos ... to maintain the overall stability of liquidity conditions,"

the report said. 

     The new reverse repo is very likely to have a two-month term, midway

between the current longest-term reverse repo of 28 days and the shortest

Medium-term Lending Facility (MLF) instrument of three months.

     A new, longer-term reverse repo would help banks to prepare better for the

liquidity coverage ratio (LCR) tests at the end of each quarter, analysts said.

     "Banks often need to issue three-month or longer negotiable certificates of

deposit in the second month of each quarter to prepare for the LCR test" because

the borrowed money that will mature within 30 days of the quarter-end cannot be

used in the calculation of the LCR test, Sun Binbin and Tang Xiaotian, analysts

at Tianfeng Securities, said on Saturday. "So by offering more than one-month

reverse repos, the PBOC can help banks to meet the need to cross quarter-ends

more smoothly and soothe liquidity fluctuations from quarter to quarter."

     Soothing liquidity fluctuations and keeping market expectations stable do

not suggest the PBOC will loosen its monetary policy stance.

     The second quarter report said the "most representative" benchmark

seven-day repo rate generally fluctuated in a range of from 2.75% to 3.0%, up

from the range of 2.6% to 2.9% in the first quarter. The PBOC did not express

any concern about the slightly higher rates, indicating that the 2.75% to 3.0%

range is still at a level with which the PBOC is comfortable.

     The report also argued that low M2 growth -- a record low growth rate of

9.4% in June -- and the low excess reserve ratio -- 1.4% at the end of June --

do not suggest that monetary policy is tight, which in effect suggests that M2

growth and the excess reserve ratio will not be the factors, at least in the

short term, in pushing the PBOC to loosen policy.

     Inflation is also unlikely to affect monetary policy stance in the short

run. The report said the "main global economies generally have low inflation

levels," and "the domestic economy has both upward driving forces and downward

pressures" on prices, so that "inflation expectations remain stable overall."

But the report also said the PBOC will continue to pay attention to

"uncertainties and changes" in inflation in the future.

     What caught the market's eye in the report was the statement that

negotiable certificates of deposit (NCDs) with a duration of less than a year

issued by banks with assets of more than CNY500 billion would be included in

interbank liabilities during its quarterly macro-prudential assessment tests

starting in the first quarter of 2018. This move, according to analysts, will

not have a major impact on the market and shows the PBOC's intention to

deleverage gradually.

     "According to our compilation of data, a total of 35 commercial banks had

assets of more than CNY500 billion as of the end of 2016, policy banks not

included," Chen Jianheng, Tang Wei and Tian Xinming, analysts and associates at

China International Capital Corporation, said on Saturday. "If we do not take

the duration of NCDs into consideration, then about 14 banks' interbank

liabilities will exceed the 33% criteria set by the MPA test when NCDs are

included, and the total exceeding the interbank liabilities limit is around CNY1

trillion."

     "In reality, because only NCDs which will mature within one year will be

included, the pressure on banks will be less than the calculations above," they

continued. "Since the second quarter, the interbank assets and liabilities have

adjusted to some extent, especially through a contraction of interbank assets.

We expect banks to be able to comply with the regulatory rules before the new

rule is implemented."

     For banks whose asset level is less than CNY500 billion, the PBOC report

does not specify any new regulation on NCDs, but there are signs that regulators

want to restrict NCD issuances from demand side, as indicated in a recent report

that regulators plan to restrict money market funds' purchases of low-rated NCDs

(See MNI's report "New Rule Would Limit MMF Investments In Low-Rated NCDS,"

published Aug. 11).

     The PBOC report also discussed issues with asset management products and

pointed to five particular problems: liquidity risks in cash pool businesses;

contagion risks in the cross-holding of products; lack of regulation in the

shadow banking system; bail-out behavior in asset management products; and

disorderly selling of asset management products by some non-bank financial

institutions.

     "Generally, the PBOC affirmed the positive influence the asset management

business can have to support the financing of the real economy, and that asset

management businesses will operate in an orderly fashion in the future," Meng

Xiangjuan and Qin Tai, analysts at Shenwan Hongyuan Securities, said in their

report on Sunday. "The direction of policy is to unify regulation based on types

of products, and to break rigid bail-out behavior and control the investment in

non-standard assets."

     "Investors should pay attention to the drafting process of unified

regulation on asset management products," Meng and Qin argued.

--MNI Beijing Bureau; +86 10 85325998; email: he.wei@marketnews.com

--MNI BEIJING Bureau; +1 202-371-2121; email: john.carter@mni-news.com

--MNI Beijing Bureau; +86 (10) 8532-5998; email: vince.morkri@marketnews.com

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