2015-02-28

PBOC Cuts Interest Rates, Rate Cutting Cycle Still in Early Phase

The PBOC cut interest rates by 25 basis points, lowering the one-year loan rate from 5.60% to 5.35%. The deposit rate falls from 2.75% to 2.5%. However, the PBOC increased the deposit band to 130% of the official rate, up from 120%. Banks could pay 3.30% interest on deposits before the cut, today it is 3.25%. This ends up being a rate cut across the board, unlike in November, when deposit rates were allowed to go up.

Liu Shan, deputy editor of the China Business Times, discusses the reasons for rate cut. He notes that deflationary forces in the economy and a monetary phenomena and lists the causes, which include
...the failure of the transmission mechanism of commercial banks. On the one hand is the lack of bank credit, mainly reflected a drop in demand in the real economy of credit, banks are more cautious lending, securities companies and banks to use the "two financial" business to put money into the stock market; the other is debtors are using new credit to repay old credit, not to support new investment. These two reasons lead to central bank liquidity not effectively flowing into the real economy, inflation will not be able to support prices.

Followed by contraction of the money supply base money growth. This is a consequence of the outflow of funds, recently the phenomenon of foreign exchange decreased significantly, while creating the conditions for the normalization of the deposit reserve ratio, but the money supply growth rate declined, no doubt suppressed the general price level rose.

In front of the complex world economic situation, China's macroeconomic authorities presumably deflation problem is getting a headache, because the long-term economic recession would lower prices, thereby affecting employment.

How to deal with deflation footsteps getting closer, is the central problem of the urgent need to face.

In terms of housing, the new rate cuts will save a borrower 144 yuan per month on a ¥1 million, 20-year mortgage. (央行再次重磅降息 百万月供减少144元楼市迎利好) Combined with the November cut, borrowers can save 378 yuan per month. This article is also optimistic about the rate cut boosting the real estate market, even in fourth-tier cities, which seems like a stretch. They are correct in expecting further rate cuts though.

Pressure on the yuan will increase as both devaluation and interest rate cut expectations harden.

ZeroHedge has further coverage of the rate cuts, including Goldman's take: China Cuts Interest Rates, Takes Number Of Central Banks Easing In 2015 To 21. The post has this chart showing the housing decline in China thus far is worse than the initial decline in the U.S.

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