China Seen Draining Funds From Bank System in Surprise Move

(Bloomberg) --

China was seen to drain liquidity from the banking system even as lenders come under pressure to handle higher demand for funds.

The People’s Bank of China probably allowed 200 billion yuan ($28 billion) of its one-year lending facility to mature on Thursday, with no statement on the operation as of 11:38 a.m. local time. Analysts had expected the central bank to roll over at least some of the funds and cut the cost of the loans from the current rate of 2.95%. The PBOC typically releases a statement on MLF operations by 9:45 a.m.

The central bank also refrained from injecting liquidity with short-term reverse repurchase agreements for a 30th straight day, according to a statement earlier Thursday.

The PBOC may conduct an MLF operation on Friday so that the operations would take place on the 15th of each month, said Becky Liu, head of China macro strategy at Standard Chartered Bank Ltd. This would “further cement the role of the MLF rate as China’s future official policy rate” and would improve monetary policy transparency, Liu wrote in a note.

China’s 10-year government bond futures extended losses Thursday, dropping 0.42% to the lowest since March 19. The yield on sovereign notes of the same tenor climbed 4 basis points to 2.72%.

With the economy struggling from the impact of the coronavirus outbreak on demand at home and abroad, China’s government is increasing bond sales to pay for fiscal stimulus. Lenders, who buy most of that debt, may need to find as much as 1.77 trillion yuan this month for the purchases, as well as other needs like adding to their reserves and handling withdrawals when companies pay taxes, according to analyst estimates compiled by Bloomberg.

The PBOC, which has reduced multiple policy rates in the past four months, recently vowed to deploy “more powerful” policies, without giving further details on what measures it will use. Key government meetings starting next week may approve even more debt sales, among other stimulus policies. The reserve ratio cut scheduled to take effect May 15 will add just 200 billion yuan in liquidity.

Continued weakness in the economy calls for more stimulus, with early indicators for April showing deepening factory deflation. Top leaders have said China will increase its fiscal deficit as a share of gross domestic product and sell more infrastructure bonds in part of efforts to stabilize the economy. That would make a more accommodative monetary policy necessary to create a favorable environment for the bond issuance.

Additional liquidity would also be key to bolstering sentiment in the onshore government bond market, which is bracing for the flood of supply. A sell-off in China’s sovereign notes worsened this week, with the benchmark 10-year yield surging to its highest level since March, amid concerns that banks will switch to local-government bonds for better returns.

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With assistance from Bloomberg