MNI SOURCES: Real Lending Rates May Drop As China Eases Credit

--Too Early for Benchmark Rate Cut; Possible If Further Slowdown

--Yuan Depreciation Restricts PBOC's Room to Cut Rates 

     BEIJING (MNI) - China's real lending rates may drop in the next two months

after the People's Bank of China eased credit controls and encouraged banks to

lend more to small businesses, sources close to policymakers told MNI.

     "The declining money market rates, resulting from the loosening stance of

the PBOC, will lead to lower lending rates in the third quarter, particularly

when the PBOC stokes lenders' risk appetite," one source told MNI.

     But the central bank may not be ready to cut benchmark rates unless soft

lending doesn't trigger a rebound and the economy stalls further, the source

added.

     The comments from policy sources are consistent with the Chinese

leadership's decision to increase credit support. Guo Shuqing, chairman of China

Banking and Insurance Regulatory Commission, urged heads of major banks back on

July 17 to boost credit to small businesses and "significantly" reduce lending

rates.

     China's deleveraging measures have increased costs for businesses to obtain

credit. According to the PBOC's first quarter Monetary Policy Report, the

weighted average borrowing rate for the non-financial sector was 5.96% at the

end of March, up 0.22 percentage point from last Q4.

     --SMALLEST TSF EXPANSION

     It may be more difficult in practice getting banks to comply. Credit policy

was eased as early as June, when big lenders were reportedly given additional

quotas, yet total social finance (TSF) for the month expanded by 9.8% on a y/y

basis, the slowest increase on record.

     "A serious problem now is that banks are not presented with many qualified

assets for them to lend against, so they hold onto their credit quotas," a

source said. If TSF remains weak for the third quarter, the PBOC may consider

cutting benchmark rates, said the source.

     Since 2008, the PBOC conducted major loosening three times, usually

accompanied by benchmark rate cuts. The decision from the politburo meeting on

Monday further confirmed an easing approach, so cutting rates to resuscitate the

economy is a possibility.

     However, the PBOC's ability to cut benchmark rates may be constrained by

other competing objectives.

     --FULL-SCALE LOOSENING

     "Benchmark rate cuts signal full-scale loosening, which compromises the

deleveraging campaign," said another source close to the PBOC. Given rate hikes

in the U.S. and pressure on yuan depreciation, cutting rates across the board

carries a lot of risks, so more targeted measures are preferred," the second

source said.

     Both the stock market crash in 2015 and the property bubble in recent years

resulted from excessive easing, so policymakers are careful not to repeat that

mistake. Three RRR cuts this year were all targeted at more vulnerable parts of

the economy.

     "The policy priority now is to stop strict tightening and expand credit"

and wait to see the impact, the source said.

     China's goal of keeping the yuan stable against major currencies is also

constrains, as The currency has lost 5% this year against the dollar on a

stronger U.S. economy, Federal Reserve moves to raise rates and its punitive

measures against Chinese exports. 

     --CAPITAL OUTFLOW PRESSURE

     "Further sharp depreciation may trigger capital outflows and reduce forex

reserves,something the PBOC must take into consideration," the second source

said. 

     The PBOC also has a smaller weapon to protect its currency, compared with

the yuan's last round of sharp depreciation in 2015-2017: the world's biggest

forex war chest has shrunk to USD3.1 trillion last month from USD3.8 trillion in

January 2015.

     "Capital outflow pressure for the country is still big in the future as the

yuan continues to fall against the dollar," that source added.

     China's forex purchases by banks plummeted by 89.4% from May's level to

CNY13.1bn. while banks were net forward forex buyers on behalf of their clients

in June, suggesting market participants are betting on a weaker yuan.

--MNI Beijing Bureau; +86 10 8532 5998; email: william.bi@mni-news.com

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

--MNI London Bureau; tel: +44 203-586-2225; email: les.commons@marketnews.com

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