China unexpectedly cuts 2 key interest rates, withdraws cash from banking system

The headquarters of the People’s Bank of China (PBOC), the central bank, is pictured in Beijing, China September 28, 2018. REUTERS/Jason Lee

SHANGHAI, Aug 15 (Reuters) – China’s central bank unexpectedly cut a key interest rate for the second time this year and pulled money from the banking system on Monday to try to revive credit demand to support the covid-hit economy.

Economists and analysts said they believe Chinese authorities are keen to prop up the weak economy by allowing a widening policy divergence with other major economies raising interest rates aggressively.

The People’s Bank of China (PBOC) said it cut the interest rate on 400 billion yuan ($59.33 billion) of one-year medium-term lending facilities (MLF) to some financial institutions by 10 basis points (bps) to 2.75%, from 2.85% .

In a poll of 32 market watchers last week, all respondents had predicted the MLF rate would be unchanged, and 29 had predicted there would be a partial rollover. read more

“The rate cut surprises us,” said Xing Zhaopeng, senior China strategist at ANZ.

“That should be a response to the weak credit data on Friday. The government remains cautious on growth and will not let go.”

New bank lending in China fell more than expected in July while broad credit growth slowed, as fresh COVID flare-ups, worries about jobs and a deepening housing crisis made businesses and consumers wary of taking on more debt. read more

The PBOC attributed its move to “keeping liquidity in the banking system reasonably good”. And with MLF loans worth 600 billion yuan maturing, the operation resulted in a net withdrawal of 200 billion yuan.

Market participants have largely priced in the partial rollover as the banking system was already flush with cash, with interbank money rates hovering at two-year lows and persistently below policy rates.

“In retrospect, today’s 10bp cut can be seen as ‘front-loading’ before the policy space narrows going forward as the PBOC sees structural inflationary pressures,” said Frances Cheung, interest rate strategist at OCBC Bank.

The PBOC reiterated that it would step up the implementation of its prudent monetary policy and keep liquidity reasonably good, while closely monitoring domestic and external inflation changes, it said in its second quarter monetary policy report.

“Despite the warnings of inflation risks and flush liquidity conditions, the dominant downside risks under the COVID spread and the real estate sector prompted the PBOC to cut interest rates to stimulate demand,” said Ken Cheung, chief Asian currency strategist at Mizuho Bank.

China’s 10-year government bonds jumped more than 0.7% in early trade after the rate decision, while yields on government bonds for the same maturity fell around 5 basis points.

The central bank also injected 2 billion yuan through seven-day reverse repos while cutting borrowing costs by the same margin by 10 bps to 2.0% from 2.1%, according to an online statement.

The PBOC cut both interest rates by 10 bps in January.

($1 = 6.7425 Chinese Yuan)

Reporting by Winni Zhou and Brenda Goh; Editing by Kim Coghill and Neil Fullick

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