MNI PBOC WATCH: July LPR To Hold As Benchmark Change Weighed
Authorities will likely again hold the LPR steady next week.
China's Loan Prime Rate is likely to remain unchanged in July as the central bank entertains an adjustment to its policy rates system, linking the reference lending rate to a short-term policy benchmark while downgrading the role of the medium-lending facility.
The LPR, based on the People’s Bank of China’s MLF rate and quotes submitted by 20 banks, will likely hold at 3.45% for the one-year maturity and 3.95% for the over-five-year tenor next Monday. The LPR last changed in February when the five-year plus maturity fell 25 basis points, while the one-year rate held steady.
The PBOC kept the one-year MLF at 2.5% on July 15 for the 11th straight month and drained a net of CNY3 billion.
The PBOC-run Financial News reported last week, citing anonymous sources, that the LPR will "see improvement," noting banks’ quotes towards its formulation and their real lending rates for top-quality clients had deviated. (See MNI: PBOC Repos First Step To Narrower Rates Corridor-Advisors)
The Bank could instead use a short-term market rate, similar to the U.S. Federal Reserve’s Secured Overnight Financing Rate (SOFR), as a pricing benchmark for floating loans, the newspaper said.
PBOC Governor Pan Gongsheng last month stressed 7-day repo had worked as a key policy rate, adding weight to speculation the PBOC could decouple LPR from the one-year MLF. (See MNI PBOC WATCH: LPR Reduction Eyed, MLF Downgrade Next)
UNWANTED MLF
The MLF, introduced in 2014, has been linked to LPR since 2019, strengthening its role as a crucial connection between wholesale money market and banks’ loan interest rates. At present, over CNY7 trillion MLF remains outstanding, mostly in one-year maturity.
The central bank uses the MLF as its reference for the LPR considering it reflects the marginal cost of funds commercial banks obtain from the PBOC over the medium term, according to the PBOC.
However, wholesale borrowers able to obtain cheaper funding via negotiable certificate of deposit (NCD) issuance find the MLF’s high 2.5% interest rate less attractive, particularly against a backdrop of ample liquidity thanks to soft credit demand and slow government debt issuance.
In June, the interest rate of bank-issued AAA-rated NCDs averaged 2.07%, lower than the MLF rate for the fifth consecutive month. The rate has dropped to 1.95% so far in July.
In contrast, short-term money market rates, including reverse repo rates, have swung about their policy benchmarks, illustrating the PBOC’s more effective control, so the Bank may desire to simplify its transmission mechanism to focus solely on repo rates.
However, MLF operations will continue to be an important tool for adjusting mid- to long-term liquidity in the banking system for the foreseeable future as the PBOC will need time to adopt CGB trading for base money injection and liquidity management, while limited room exists for major reductions in the reserve requirement ratio.