China Headlines: China's RRR cut positive for real economy

The Chinese central bank's decision to cut banks' reserve requirement ratio (RRR) will be good for growth, reduce financing costs, and aid the real economy, analysts believe.

The RRR will be cut by 100 basis points (bps) from Monday, the second across-the-board cut this year and the biggest reduction since November 2008.

Economic data in the first quarter has been poor, with growth slowing to 7 percent, the lowest rate since 2009. Tighter margin trading rules were announced on Friday.

The Shanghai stock market responded by briefly trading higher, closing 1.03 percent up at 4,331.28 at midday Monday, before falling in the afternoon.

FOR WHAT PURPOSE?

Lian Ping, chief economist of the Bank of Communications, believes the cut will improve lending and stabilize growth.

Last week's industrial output, investment and consumption data all indicated subdued momentum in the first quarter. Exports and imports slumped by 14.6 percent and 12.3 percent in March.

"It is necessary to fine-tune monetary policy to ensure credit growth and lower financing costs," said Ma Jun, chief economist with the research bureau of the People's Bank of China (PBOC).

The RRR for big banks is now 18.5 percent. Lian estimates the cut will release around 1.2 trillion yuan (196 billion U.S. dollars) into the economy and significantly improve liquidity. Other economists at UBS and China Minsheng Bank predict similar scenarios.

Ma said the RRR cut will lower financing costs as banks with capital to lend cut rates. Better liquidity will reduce the costs of financing through corporate bonds.

NO MAJOR STIMULUS

UBS economist Wang Tao said the RRR would be seen by the market as significant easing.

"The RRR cut will increase liquidity, largely to offset the drop in FX-related liquidity supply and buttress base money growth. In other words, easing, yes; simulative, not necessarily," Wang said in a research note.

According to the PBOC, FX assets on its balance sheet contracted by 252 billion yuan in Q1. In the same period last year they increased by 788 billion yuan. Private investment stood at 4.61 trillion yuan in Q1, down 895 billion yuan year on year.

"With yuan funds from foreign exchange decreasing and increasing pressure of FX outflow, the RRR cut comes at the right time," Lian said.

Guan Qingyou of Minsheng Securities said the RRR cut will help financial institutions defend themselves against credit risk as outdated production capacity is eliminated nationwide.

"The RRR cut will help keep the financial market stable, prevent an economic downturn caused by deflation, and win time for restructuring," he said.

On Friday, PBOC governor Zhou Xiaochuan said on the sidelines of a World Bank-IMF meeting in Washington DC that China will continue prudent monetary policy, but be flexible based on economic data.

ROOM FOR MORE

Prior to the RRR cut, Chinese Premier Li Keqiang visited the headquarters of the Industrial and Commercial Bank of China, and the China Development Bank, a policy bank. The premier called on banks to help restructuring, stabilize economic growth, and reduce costs for small and medium-sized enterprises (SMEs).

Apart from the 100-bps cut in RRR for all banks, the PBOC also delivered additional RRR cuts for rural credit cooperatives, village banks, rural cooperative banks and the Agricultural Development Bank of China to help SMEs, agriculture and water projects.

There have been two interest rate cuts since November, the latest in March, and business financing costs have declined, albeit moderately, with their borrowing rate 6.83 percent at the end of March, down 12 basis points from three months ago.

Relaxed mortgage rules for second home purchases set the property market rising last month, with home sales up 65.9 percent month on month. The manufacturing sector also expanded in March.

Wang Tao of UBS said the RRR will not just improve business and market sentiment, but ensure adequate credit and liquidity. She predicted more monetary easing this year, including a benchmark rate cut. One more RRR cut remains possible.

Lian Ping also expects one more RRR cut this year given the persistent downward pressure on the economy, with the interest rate cut dependent on deflation risk. Endi