An Assessment of Future Trends in China's Monetary Policy
On May 11, the People's Bank of China (PBoC) released China's Monetary Policy Implementation Report for the First Quarter of 2021, which reviews China's economic situation and monetary policy implementation in the first quarter and provides basic ideas on the future policy direction. ANBOUND observes that the report indicates current policy stance is still making precise adjustment by closely monitoring macroeconomic trends on the basis of maintaining basic stability, aiming to achieve the goal of stable growth and preventing risks.
With regard to the policy implementation in the first quarter, the PBoC is relatively satisfied with the current policy implementation and the monetary environment, and believes that the goal of returning to neutral monetary policy has been basically achieved. According to the report, the PBoC will closely monitor the money supply, make cross-cycle liquidity arrangements, carry out accurate open market operations, maintain a reasonable abundance of market liquidity, improve the market-based interest rate formation and transmission mechanism, guide interest rates to fluctuate around the policy rate, and provide a suitable liquidity environment to promote the construction of a new development pattern. In terms of the intermediary target that the PBoC pays attention to, the fluctuation of capital interest rate is still at a reasonable level, with the average value of DR007 being 2.21% in the first quarter, close to the policy rate. This means that the daily reverse repo of RMB 10 billion, which has been going on for several days, has played a guiding role in interest rates and achieved the purpose of "precise regulation".
Regarding the monetary policy stance for the next stage, the PBoC further clarified that "prudent monetary policy should be flexible, precise, reasonable, and appropriate, give more priority to serving the real economy, cherish neutral monetary policy space, and properly handle the relationship between economic recovery and risk prevention". From this statement, the PBoC emphasizes the continuity, stability, and sustainability of monetary policy, but at the same time, there are still some new changes. At the end of last year and at the beginning of this year, the PBoC's expressions such as "not to make sudden changes and properly handle the timing and effectiveness of policies" have been replaced by "give more priority to serving the real economy and cherish neutral monetary policy space". This means that the PBoC's monetary policy has basically completed the transition from a moderately loose monetary policy last year to a "neutral" monetary policy. In the second half of the year, when global inflation is rising and economic growth is expected to slow down quarter by quarter, the PBOC's policy will still focus on the adjustment of economic structure to avoid "economic derailment".
As for the future economic situation, the statements presented in the report appears to be the continuation of the previous Politburo meeting's views on economic growth. The global economic recovery began to diverge due to the recurring pandemic. In addition, even after its economic recovery, China still faces structural problems, such as limited household consumption, sluggish growth in manufacturing investment, and high pressure on the stabilization of employment. This means the economic trend ahead will be more challenging once the economy has recovered effectively from the pandemic. This is the reason why it is necessary to "cherish the neutral monetary policy space". The future trend of China's economy is not expected to see a sharp rebound, but will show a gradual return to the long-term trend of slowing growth. In the future, there will still be great pressure for structural steady growth.
As far as the monetary policy goal of maintaining the RMB value stability is concerned, the rise of inflation can be said to pose a major challenge to the economic development and the implementation of monetary policy under the long-term structural contradictions of the economy. On the one hand, rising global inflation is becoming more apparent amid rising energy and commodity prices. On the other hand, looking at the situation in China, the moderate rise of CPI and the rapid rebound of PPI has caused the structural changes in inflation a great threat to the country's economy. The PBoC's report also expressed concern about three issues: First, the prospects for global economic recovery are still highly uncertain, and the problem of increasing divergence and imbalance is becoming more prominent. Second, the subsequent impact of ultra-loose monetary policies in major economies and the risk of monetary policy shift need to be closely monitored. Third, global inflation is likely to continue to rise.
While the PBoC believes that the current rise in domestic inflation is still benign and does not pose a threat to China's economic recovery, the profitability of enterprises will still face a greater challenge as the RMB exchange rate fluctuates in the context of sharply rising raw material prices. Corporate lending rates are now gradually increasing as liquidity injected into the domestic market decreases and inflation rises. The weighted average corporate lending rates at the end of March was 4.63%, a slight increase of 2 basis points from the end of December last year, but down 19 basis points from a year earlier. Some analysts believe that with the gradual withdrawal of unconventional monetary policies (such as subsidies on special refinance loans), and the requirements on banks are relaxed, the corporate lending rate may rise slightly within the year. Therefore, from the perspective of monetary policy, it is still necessary to adopt policies that prevent the inflation level from getting out of control and affecting economic stability.
In the context of an unstable economic recovery, rising interest rates will pose a threat to future market demand. With inflation on the rise, an across-the-board reduction in policy rates becomes unrealistic, while raising interest rates in response to inflation will hurt the overall economy. Structural monetary policy adjustments are still needed in the future to achieve the goals of supply-side structural reform. For China to guard against risks and stabilize growth at the same time, it means that there is little room for future monetary policy adjustment, and indeed it would be quite difficult to do so. At present, the PBoC may still adopt the mode of refinancing and rediscounting to promote the improvement of financing conditions for small and medium-sized enterprises, as well as to establish incentive policies in the field of green finance to promote the development of green and low carbon transition. At the same time, the PBoC will also further strengthen the regulation of industries with excess capacity and the real estate industry, and take structural measures to optimize the economic structure. This adjustment is still likely to come into effect in the second half of this year, as expected by ANBOUND.
Final Analysis Conclusion:
Since the beginning of this year, China's prudent monetary policy has basically achieved its policy objectives. However, in the context of divergent economic recoveries both in China and other countries, as well as the markedly rising inflation expectations, policy adjustments will become more and more difficult in the future. Therefore, it is likely that structural policy adjustments in China will be made to cope with the increasingly complex changes in the macroeconomic situation.
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