MNI EXCLUSIVE: China Should Cut Rates, Advisors Say

     BEIJING (MNI) - The People's Bank of China should further ease monetary

policy, cutting both policy rates and banks' reserve ratios, to enhance the

effect of fiscal stimulus as the trade dispute bites and disinflationary

headwinds strengthen, policy advisors told MNI.

     "As core inflation and demand remain low and the producer price index has

turned negative on both annual and a monthly basis, the need is growing for a

rate cut, via lowering medium-term lending facility rates," said Fei Zhaoqi,

monetary research director at the Institute of Finance and Banking of the

Chinese Academy of Social Sciences (CASS), "Monetary policy would enhance

stimulus targeting infrastructure and private companies. Small- and medium-sized

financial institutions should also receive support."

     China's manufacturing purchasing managers' index has stayed in contraction

territory for four consecutive months and the PMI's employment index dropped to

a decade-low in August. Expectations of a rates cut are rising, particularly

with the Federal Reserve likely to ease again this month and other major central

banks flagging looser policy stances.

     Zhu Baoliang, chief economist at the State Information Center, a major

government think-tank, told MNI the PBOC would provide ample liquidity and guide

interest rates lower to bolster issuance of local government bonds, particularly

so-called "special bonds" which are repaid using income from the infrastructure

projects they are used to fund. Cuts in banks' reserve requirement ratios would

also lower long-term rates and encourage companies to borrow, Zhu said, adding

that the economic slowdown made reforms in areas such as land and state-owned

enterprises still more pressing.

     --DRAG FROM TRADE

     Advisors agreed the trade war with the U.S. was beginning to drag on the

economy.

     "Core CPI and PPI continue to fall, indicating insufficient demand, and the

economy faces a rising risk of deflation. The key for counter-cyclical moves

will be to stimulate credit demand, by cutting interest rates, normalising

property controls, accelerating special bond issuance, expanding infrastructure

financing and increasing flexibility of the yuan, " said Zhang Bin, senior

fellow at the China Finance 40 Forum, a prominent think tank.

     Core CPI now is just 1.6%, while PPI has fallen to 0.3% on monthly basis,

according to Zhang, who said July's headline CPI rate of 2.8% was distorted by

rising prices for pork, which have been pushed up by an outbreak of African

swine fever.

     Moves by the People's Bank of China to reform its interest rate formation

mechanism, aligning it more closely with market rates, have not made it

sufficiently flexible, advisors said.

     Peng Xingyun, deputy director of CASS's National Institution for Finance

and Development, told MNI that the PBOC's medium-term lending facility rate

should be reduced in coordination with an additional cut in reserve requirement

ratios.

     Monetary policy should play a secondary role to fiscal policy in supporting

the economy, advisors said. Fiscal stimulus should include more measures to

bolster infrastructure investment, which remains low despite official attempts

to boost it in the first half of the year, Fei said, predicting that quotas for

special bonds are likely to be increased and local government debt swaps further

encouraged. The central bank is also likely to strengthen targeted credit

supports to infrastructure.

     Premier Li Keqiang said during today's executive meeting of the State

Council that the government will accelerate issuance of special bonds and

front-load part of the 2020 quota in 2019 as "the external environment is

getting more severe and complicated". The meeting also called for monetary

policy moves to lower real interest rates at a faster pace and for both overall

and targeted RRR cuts to support small businesses.

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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