For the third time since November, China has cut its benchmark lending rate.
Hours ago, the PBoC slashed the 1-year lending rate by 25bps to 5.1% and the 1-year deposit rate to 2.25%. The move comes just three weeks after Beijing cut the reserve requirement ratio for the second time this year and marks a continuation of a heretofore unseen trend in China: easing into a stock market rally.
From the PBoC announcement:
The further decline in deposit and lending rates, the focus is to continue to play a leading role in a good benchmark interest rate, the cost of financing to further promote the social downside, support sustained and healthy development of the real economy. According to the unified deployment of the State Council, November 2014 and March 2015, the People's Bank has twice lowered the financial institutions lending and deposit benchmark interest rate. With the gradual implementation of the policy measures, financial institutions, lending rates continued to decline, the market interest rates dropped significantly, the overall social financing costs decreased. At present, the domestic economy accelerated restructuring, fluctuations in external demand, China's economy is still facing greater downward pressure. Meanwhile, the overall level of domestic prices remain low, real interest rates are still higher than the historical average for the continued appropriate use of interest rate instruments to provide space. In view of this, the People's Bank of China decided as from May 11, 2015, loans and deposits of financial institutions lowered the benchmark interest rate by 0.25 percentage point, to create a neutral appropriate monetary and financial environment for economic structural adjustment and restructuring and upgrading.
As we noted when the RRR cut hit last month, the country’s latest easing measures come as Beijing faces an increasingly perilous economic situation characterized by shifting demographics, a tough transition from investment to consumption, and slumping exports. To the latter point, the country has found itself stuck between the proverbial rock and a hard place as $300 billion in capital outflows over the last four quarters (and an IMF SDR bid) make yuan devaluation an unpalatable tool for countering slowing export growth. As such, lowering policy rates is seen as the preferable option for supporting the stalling economy.
Against this backdrop, and with the latest data on PPI inflation (or, more appropriately, deflation) adding fuel to the fire, further easing was a foregone conclusion. Here’s Barclays:
PPI deflation and soft CPI inflation point to persistent deflation risks. On the back of weakening economic growth and rising deflation risks, we note a shift in the PBoC's monetary policy bias towards more easing since March, along with the government's stepped-up policy easing in other areas including fiscal policy and the property sector. It is worth noting that the PBoC has guided the reverse repo rate lower five times by a total of 50bp since March, which has resulted in a sharp drop in the 7d repo rate to 3.0% from 4.8%. The still elevated cost of funding, down only 10-20bp in Q1 despite the 65bp of cuts in the benchmark lending rate since November, point to the need of further monetary easing. We maintain our call for one additional 25bp benchmark rate cut in Q2 and look for two more 50bp RRR cuts in 2015, with the risk of more if growth continues to disappoint.
And a bit more color from Reuters:
Economists had said it was not a matter of if, but when China eased policy again after economic growth in the first quarter cooled to 7 percent, the slowest pace since 2009.
Some market watchers had even said the central bank was risking falling behind the curve in responding to rapidly deteriorating conditions.
Initial indicators and industry surveys for April released over the last few weeks had pointed to a further loss of momentum heading into the second quarter.
"Currently, the pace of domestic economic restructuring is quickening and the fluctuation of external demand is relatively big. China's economy is still facing relatively big downward pressure," the central bank said.
“This is not a surprise. The consumer inflation reading for April was lower than expected and employment faces downward pressures," said Lin Hu, an economist at Guosen Securities in Beijing.
"But the effectiveness of the rate cut won’t be very big, it may (only) help stabilize expectations. Fiscal policy should be stepped up and there will be further monetary policy easing if economic data continues to underwhelm. We expect the worst could be over after the second quarter and growth may stabilize in the third or fourth quarters as the property sector recovers.”
Although there’s no question that China’s economy is sputtering and that growth is probably running well short of the official 7% headline figure, we would ask the same question we asked on the heels of last month’s RRR cut. Namely, is it really about the economy? At the time, we said the following:
Recall that on Friday Chinese equity futures crashed after the close following news that the China Securities and Regulatory Commission (CSRC) put out an announcement which tightened up rules governing certain trading on margin while simultaneously liberalized rules on short selling.
Coincidentally, it was just last Tuesday that brokerages such as CITIC Securities Co Ltd, Haitong Securities Co Ltd and Huatai Securities Co Ltd tightened requirements for margin financing in an effort to “control risks.” The result: Chinese stocks promptly suffered their biggest drop since January, falling more than 4.1%.
We wonder then, if Beijing is taking its cues from stocks or from the economy and because this looks like deja vu all over again, we'll close with exactly what we said three Sundays ago:
Expect last week's selloff to be more then BTFDed as soon as China opens for trading in a few hours, and the SHCOMP to surge even higher and to even more unsustainable, and centrally-planned levels, merely pushing back the day of reckoning by a few weeks or months, as yet one more bank scrambles to preserve the "wealth effect" by artificially pushing its stock market higher.