On Saturday, China’s central bank cut its reserve requirement ratio (RRR) for the second time in less than three months, a move which was expected — though just not now.
Societe Generale’s Wei Yao earlier this month said a cut was unlikely before March, given the fuzzy picture painted by data affected by the lunar new year. Wei believes Saturday’s move was unlikely to have much of an effect, because of the leverage limits applying to smaller banks:
The cut will release around CNY 400bn into the banking system and will help ease banks’ liquidity situation, placing downward pressure on interbank interest rates. However, it will not increase banks’ lending capacity directly, as banks, especially small and medium sized banks, are still constrained by the 75% loan-to-deposit ratio.The Saturday cut does not change our forecast for prudent monetary easing. We look for three more required reserve cuts of 150bp in total by the end of this year. The early timing of the move may, however, signal more fiscal easing measures at the annual National People’s Congress in early March, which is also in line with our initial expectations for fiscal policies.
Other analysts’ estimates, meanwhile, ranged from Rmb350bn to Rmb400bn.
What’s interesting is that the timing of this really did seem to surprise nearly everyone. After all, many had expected the PBoC to have moved on the reserve requirement ratios much earlier this year. Instead, the PBoC engaged in reverse repo operations, which BAML analysts hypothesised might have been due to a desire to control the ‘real’ lending rate’ — and make a show of strength against inflationary pressures.
And they might still be proved right. For example, Nomura today warns about the unintended consequences of the RRR cut:
We now believe that our GDP and inflation forecasts face upside risks. Economic momentum in January did not slow as quickly as we had expected, yet policymakers have shown a willingness to loosen policy before inflation pressure recede. We believe this policy action helps to contain downside risks to GDP growth, but raises the risk of higher inflation in the second half of 2012. We will review our forecasts once more January-February macro data are released on 9 March.
Which might suggest the PBoC moved more out of desperation than strategic thinking.
Standard Chartered, however, is less worried:
This move should free around CNY 370bn for banks to lend/invest, and lower interbank rates. Given the timing of the RRR cut came as a surprise, markets will likely react positively, though the extent will be limited by worries that Beijing may be reacting to weak economic data.Combined with Premier Wen‟s recent comments that firms were facing increasing difficulties in Q1, we see the RRR cut as a signal that Beijing is continuing with its gradual easing stance. We forecast four more cuts in the RRR before end-2012 and retain our forecast of an average CPI inflation of 2% for 2012.
As ever in China, of course, it’s all about the inflation trade-off. In this case, it does seem that the PBoC believes inflation risk may be warranted given that the Bank’s reverse repo operation strategy has so far failed to stave off what is becoming an acute liquidity shortage in the market.
According to Reuters, the PBoC conducted yet more reverse repos with selected banks last Friday — all of which clearly failed to work. That, of course, was before Saturday’s RRR cut, another sign that the RRR move may have been a forced rather than optional hand.
Even now Chinese repo rates remain stubbornly high, though some analysts say that should change once the RRR cut comes into play this Friday. If they fail to budge after that, however… Beijing may very well have a problem.
By Kate Mackenzie and Izabella Kaminska