MNI PBOC WATCH: LPR Cut Likely Following Policy Rate Reduction

The People’s Bank of China will likely cut its policy rates and guide down the reference lending rate later this year as inflation remains soft and weighs on the economy's real funding cost, however, its refreshed remit from the central government to ensure banks' profits and prevent idle funds could limit the reduction's size.

The Loan Prime Rate, based on the rate on the PBOC's medium-term lending facility (MLF) and quotes submitted by 20 banks, was held at 3.45% for the one-year maturity and 3.95% for over-five-year maturity on Wednesday, in line with expectations, following the PBOC's decision to hold the MLF rate steady last week. (See MNI PBOC Watch: LPR To Hold, Idle Funds Targeted) The one-year LPR has held at 3.45% since last August, while the five-year maturity was lowered 25 basis point last month.

Exports and industrial output will likely slow in March, dragging down overall demand and credit expansion, and may push the central bank to cut the MLF rate as early as Q2 which will cheapen corporate loans and mortgages.

PBOC Governor Pan Gongsheng's comments during the Two Sessions meeting earlier in the month suggested the bank could reduce the reserve requirement ratio and cut policy rates to further lower funding costs.

WEAK REAL ESTATE

According to the National Bureau of Statistics, property investment tapered its decline over January and February for the first time in 12 months, falling 9% following the previous 9.6% decrease. However, investors have attributed the improvement mostly to an adjustment of the statistic's methodology, as the NBS excluded some parts of land-development investment.

High-frequency data, such as real-estate construction and the funding sources of developers, have pointed to a weak recovery, which will require support from lower loan rates. (See MNI INTERVIEW: PBOC To Cut Rates To Boost Credit - Zhang Bin)

Money market rates have risen marginally as local government bond issuance accelerates, lenders increase loan volumes and the PBOC reduces open market operations, which will push up returns on some wealth management products. As a result, lenders will find it harder to attract deposits and liquidity will fall should the central bank hold the mid-point of policy rates lower than that found in wholesale markets.

However, the central government wants the PBOC to ensure "the health of banks’ balance sheets,” while preventing funds sitting idle in the banking system, which could limit room for a significant LPR reduction. Further deposit rate cuts would likely accompany any move lower.