Cushioning the extent of China's slowdown
Jeremy Stevens
The People’s Bank of China (PBoC) has kicked off 2019 by cutting the reserve requirement ratio (RRR). This latest cut will come in two phases: the first 50 bps on 15 January, the second 50 bps on 25 January. True to form, markets rallied in response – especially infrastructure-related stocks – as cutting the RRR is seen as a sign that Beijing is preparing to go back to the old play book.
Anyone expecting policy stimulus significant enough to reverse the slowdown will be disappointed. Granted, more support will be forthcoming. Consider that after the China Economic Work Conference (CEWC) in December, the word “neutral” was removed from the official description of the monetary policy stance in 2019; this is significant. Still, policy will remain reasonably measured, aiming to cushion, not reverse, the extent of the slowdown.
Even if the latest move intends to stimulate lending, widespread acceleration in credit is unlikely due to the continued crackdown on non-bank financial institutions, the difficulties facing smaller banks, and the depressed economy. The PBoC cut the RRR four times in 2018, with both credit and money supply growth subdued. Last year, TSF increased by CNY19tr – down 15% y/y. For most of the year, commercial banks opted to hold extra reserves rather than lend money to the real economy. This will likely persist in 2019.
The most reasonable interpretation of the move remains that the central bank, rightly, recognizes that the real risk facing the financial system centers around liquidity due to ongoing de-risking. Therefore, the central bank is (i) ensuring that liquidity is ample, via reserve requirement cuts, and (ii) encouraging banks to continue to make use of longer-term funding sources.
The RRR cut timing is no surprise, considering the need to ensure that liquidity is always amplified around Chinese New Year (which falls on 5 February this year). It is also worth noting that a high volume of medium-term lending facilities (MLF) will mature this month, draining liquidity from the financial system. In fact, expiring MLF contracts alone will absorb more than half the CNY1.5trn incremental addition to liquidity.
Beijing is undoubtedly uncomfortable with the confluence of the deteriorating external environment and China’s economic slowdown. Indeed, the tone at this year’s CEWC was most downbeat. Beijing expects 2019 to be a difficult year. Domestic sentiment is weak, and news flow is likely to deteriorate further.
Economic support measures are set to intensify in 2019. We anticipate another 200 bps this year, in harmony with additional injections through medium-term lending facilities, pledged supplementary lending, and open market operations. But, the emphasis will more on fiscal policy than monetary policy. And, even on that score, we don’t right now foresee a trend-reversing impulse.
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