China's policy shift: cuts bank reserves to shore up economy

China's central bank cut reserve requirements for commercial lenders on Wednesday for the first time in three years.

hidden November 30, 2011 21:00:13 IST
China's policy shift: cuts bank reserves to shore up economy

China's central bank cut reserve requirements for commercial lenders on Wednesday for the first time in three years, a policy shift to ease credit strains and shore up an economy running at its weakest pace since 2009.

China's policy change came just hours before coordinated action by major central banks, including the Federal Reserve and the European Central Bank, to ease credit strains in world markets buffeted by the euro zone debt crisis.

Official concern is rising that the global economy is on a slippery slope as the euro zone struggles to decisively tackle its two-year crisis. Global markets rallied on the combination of central bank news.

Chinas policy shift cuts bank reserves to shore up economy

China's unusually high reserve rate requirements have made life difficult for private-sector companies. AFP

China's central bank said on its website it lowered the amount of cash that banks have to set aside by 50 basis points, effective 5 December. That cut the reserve requirement ratio (RRR) for the biggest banks to 21 percent from a record high 21.5 percent, freeing up funds that could be used for lending.

"This is a big move — this is easing," said Stephen Green, China economist at Standard Chartered Bank in Hong Kong. "It's a clear signal that China is on a loosening mode. The next move will be another RRR cut in January."

The cut releases between 350 billion yuan and 400 billion yuan ($54.8 billion to $62.7 billion) into the banking system, analysts estimated.

The People's Bank of China (PBOC) joins the central banks of Brazil, Indonesia, Thailand and the euro zone, among others, in easing monetary policy, a reflection of the alarm that the euro zone debt crisis and a sluggish US economy could drag the world back into a recession.

Credit crunch

China's unusually high reserve rate requirements have made life difficult for private-sector companies. While they account for 75 percent of urban employment, they find it far harder to secure bank loans than politically well-connected state-owned enterprises.

Worried about a destabilising jump in unemployment, Beijing is eager to lend them a hand. In recent weeks, China has seen a spate of major strikes in its export powerhouse in the Pearl River Delta.

Ten of 19 analysts in a Reuters poll on Tuesday had predicted China would cut its bank reserves in December by 50 basis points. Eight had expected a move in the first quarter of 2012 and one not until the second quarter.

Purchasing managers' data on Thursday could confirm the pressure on China's manufacturers from the global slowdown after a flash PMI from HSBC last week suggested the sector was shrinking.

As recently as the middle of 2011, China was still tightening monetary policy to combat stubbornly high inflation, which rose in July to a three-year high of 6.5 percent.

However, as the economy felt the chill of a slowdown in global activity and inflation eased, Beijing adopted a policy of "fine tuning" that included loosening credit for cash-starved small firms.

Beyond growth concerns, capital outflows driven by the global market jitters also help explain the central bank's move, said analysts. Capital inflows have been the main source of money supply growth in China.

"I think the move is partially driven by capital outflows in November. Also, it may indicate that the economy has weakened quite bit and that the official PMI reading does not look very good," said Zhiwei Zhang, China economist at Nomura.

There are fewer maturing central bank bills due in December, which also put strains on liquidity conditions for banks.

More easing ahead

The cut in the reserve ratio was the first since December 2008 and marks a monetary policy shift to an easing bias.

"The move sends a clear message that the central bank is ready to relax its policy stance," said Shi Chenyu, an economist with the investment banking unit of Industrial and Commercial Bank of China.

The central bank could have achieved the same loosening on credit quietly, said Mark Williams, chief economist at Capital Economics in Britain.

"The fact that it chose to act in this more public way is a signal not only that policymakers are loosening but that they want to be seen to be doing so. Accordingly, we see this as a decisive shift in policy stance," he said in a note.

Analysts said the China news would boost riskier assets on hopes that easing policy in China will boost the country's demand.

World stocks jumped 2.6 percent on the combined news from global central banks and China markets are expected to rally when they open for trading on Thursday.

Few analysts expect China to start cutting interest rates anytime soon though.

China's interest rates are already negative when adjusted for inflation. Policymakers worry that cutting them now would only prompt savers to pull money out of the banking system in search of better returns elsewhere, thus crimping bank lending.

China's economic growth has eased for three straight quarters due to tight credit at home and flagging demand overseas. The economy grew 9.1 percent in the third quarter from a year earlier, its weakest pace since the second quarter of 2009.

Data since has suggested a further slowdown. The red-hot property market is showing signs of cooling as sales fell in October from a year earlier for the first time in six months.

A flash purchasing managers' index from HSBC on 23 November showed that China's manufacturing sector shrank in November, reviving worries of a hard landing for the world's fastest growing major economy.

HSBC releases the final figures on Thursday alongside an official survey that analysts forecast will show that the factory sector stalled in November.

Such data would back a forecast this week from the Organisation for Economic Co-operation and Development forecast that China's growth will slow in 2012 to below 9 percent for the first time in a decade.

Reuters

Updated Date:

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