A commuter walks past the People’s Bank Of China (PBOC) headquarters in the financial district of Beijing, China. (Photographer: Brent Lewin/Bloomberg)

China's Brightening Economy Calls PBOC Easing Path Into Question

(Bloomberg) --

Signs that China’s economy is stabilizing have kicked off a debate about whether the central bank should keep injecting liquidity into financial markets, with a former senior official warning of the risk of asset bubbles.

The People’s Bank of China should decide whether to cut the amount of money lenders must hold as reserves only after seeing more economic data, such as first-quarter gross domestic product due April 17, Sheng Songcheng, a former director of the PBOC’s statistics and analysis department, said in an interview with Economic Information Daily published Tuesday.

China's Brightening Economy Calls PBOC Easing Path Into Question

Economists and traders expect the PBOC to cut reserve requirements at least three more times this year, having used such cuts since early 2018 to manage market liquidity and funnel cash into the slowing economy. Now, incoming data are pointing to a bottoming out of the growth slide following a stimulus push that’s spurred China’s markets and re-started the growth of its debt pile.

“Cutting reserve ratios when the economy is already stabilized can push inflation higher and guide a large amount of funding to the property market,” Sheng was quoted as telling the newspaper.

Even so, market conditions this month could prompt action by the PBOC even if it’s not strictly necessary to support the economy. Maturing loans offered via the medium-term lending facility will potentially suck liquidity out of the market, as will tax payments and local-government debt sales. The drain could add up to 1.5 trillion yuan ($223 billion), according to calculations by Bloomberg News.

Type of liquidity pressure in AprilAmount
Maturity of MLF loans367.5 billion yuan
Government depositsabout 600 billion yuan
Local government debt saleabout 650 to 700 billion yuan

There are also risks to the economic outlook. Producer prices will likely grow by just 0.3 percent in 2019, according to the median estimate of 15 economists in a Bloomberg survey, down from a forecast of 0.8 percent in February. Sinking producer-price growth squeezes companies’ pricing power and makes debt repayment more difficult.

What Bloomberg’s Economists Say...

“In our view, it is necessary for the PBOC to inject more long-term liquidity into the economy. Fundamentally, this is needed to support a sustainable expansion in credit to prop up economic activity.”
-- David Qu, economist
For the full note click here

Which tool the PBOC uses to fill in the liquidity hole is important because it indicates where policy is heading next.

Whereas cutting banks’ reserves requirements can release cheap and long-term funding, the central bank can also roll over MLF loans or inject funding via targeted MLF operations -- both of which can lead to higher financing cost for banks than cutting reserve requirements. The PBOC began using MLF as the main funding channel when its policy priority tilted toward risk prevention in early 2017.

The case for another reserve cut "isn’t that big" as interbank funding remains sufficient for now, but the demand will grow in June when liquidity tightens, according to Wang Yifeng, a researcher at China Minsheng Bank Co. in Beijing.

China’s overnight repurchase rate dropped the most since March 1 on Tuesday, reflecting high liquidity in the banking system at the start of the month.

“It probably makes more sense to moderately cut interest rates in the second quarter” rather than lowering reserve ratios, as the former can reduce corporate funding costs more directly and cushion against the downward pressure, he said.

©2019 Bloomberg L.P.