MNI PBOC WATCH: Policy Rate Cut Still Live, RRR Reduction Delayed

The People’s Bank of China could reduce its policy rates as soon as late Q1 or early Q2 should the economy continue to struggle, however, its recent injection of 7-day repo has lowered the likelihood of a reserve requirement ratio cut before Chinese New Year, economists and analysts told MNI.

The Loan Prime Rate, based on the PBOC’s medium-term lending facility (MLF) rate and quotes submitted by 20 banks, remained at 3.45% for the one-year maturity and 4.2% for the over five-year maturity on Monday, its fifth consecutive month on hold, according to the central bank’s website. The pause was in line with expectations. (See MNI PBOC WATCH: LPR To Hold, Market Cut Expectations Persist)

A policy rate reduction – which will guide LPR lower – will support the economy, encourage inflation, help lower local-government debt risk and boost the property sector, said China Minsheng Banking Corp Chief Economist Wen Bin, noting a cut was possible in late Q1 or early Q2 should economic performance continue its sluggish trend following the credit and fiscal expansion.

Room also exists for a deposit-rate reduction, and regulators could tighten lender’s macro-prudential assessments and curb prices of some deposit products, which will help lower their LPR quotes, Wen predicted.

DIMINISHING RETURNS

An advisor familiar with monetary policy operations told MNI the PBOC may choose to use its general easing tools more cautiously, such as rate and RRR cuts, due to increasing concerns over their effectiveness and rising arbitrage opportunities in the wholesale and credit markets.

Last week’s significant CNY1.56 trillion 7-day reverse repo and MLF net liquidity injection via open market operations (OMO) will lower the chance of an RRR cut before Chinese New Year, which begins on Feb 10, he said. However, the PBOC may still cut RRR this year, but only after the liquidity gap expands and money-market rates experience major volatility, he argued.

But weak inflation could force the central bank to act, as lowering funding costs of the real economy forms an important part of its mandate in 2024. According to the National Bureau of Statistics, CPI rose 0.2% y/y in 2023, compared with 2% in 2022, while PPI dropped 3% y/y against 2022’s 5% rise. This led the GDP deflator to decrease 0.54% over 2022’s 1.77% increase, the advisor said.

Wang Qing, chief macroeconomic researcher at Golden Credit Rating, said the soft inflation had increased commercial and household real-funding costs, which had reduced the impact of the PBOC’s 25bp rate cut in 2023. The bank will have to act should the GDP deflator continue to fall in the short term, he said.

Policymakers also usually enhance support when official manufacturing PMI records contraction for three consecutive months, Wang noted, pointing to the metric’s recent poor performance. Therefore, the PBOC may lower policy rates and guide down LPR as early as Q1, he noted.

Liang Si, a researcher at Bank of China, told MNI the PBOC will continue to increase liquidity via its OMOs, including the possible restart of 14-day reverse repo, to smooth the significant seasonal demand before Chinese New Year. However, the pace of policy rate and LPR reductions this year may slow as lenders’ interest margin approaches a record low.