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Monday, January 17, 2022
Monetary Policy Trend as Indicated by PBoC's Interest Rate Cut
ANBOUND

The People’s Bank of China (PBoc) said on January 17 that it will conduct an RMB 700 billion medium-term lending facility (MLF) operation and an RMB 100 billion open market reverse repo operation in order to maintain adequate liquidity in the banking sector. The MLF rate and open market reverse repo rate both fell by 10 basis points to 2.85% and 2.10%, respectively. Given the expiration of RMB 500 billion in MLF and RMB 10 billion in reverse repo on that day, a net investment of RMB 290 billion was made in the open market. The central bank's open market operations have attracted market attention. For starters, this is the first time the policy rate has been lowered since April 2020; consequently, after the continuous recovery of liquidity at the beginning of the month, it began to re-invest in the market to stabilize "cross-season” liquidity needs. This move means that the "moderately easing" trend of the monetary policy started by China’s central bank at the end of 2021 will continue, and this carries positive significance for the country’s stable growth in 2022.

The PBoC has lowered the policy interest rate and has continued to push the monetary policy toward "moderate easing”, and this was done against the backdrop of a continuous decline in China's economic growth. The latest data shows that China's economy grew by 4% year-on-year in the fourth quarter of 2021. Although the economy achieved an expected growth of 8.1% for the whole year, it continued the trend of "high growth rate in the beginning, low growth rate at the end". In terms of quarters, the economic growth rate in the first quarter of 2021 was 18.3%, the second quarter 7.9%, the third quarter 4.9%, and the fourth quarter 4.0%. As ANBOUND has previously analyzed, this continuous downward trend poses a serious challenge to the stability of the Chinese economy and requires a combination of counter-cyclical and cross-cyclical policies to improve supply and demand.

It is noticeable that the central bank has begun to push a series of easing measures in response to the worsening economic environment, including the second comprehensive RRR decrease this year, decreasing the interest rate on structural policy instruments, and cutting the LPR interest rate from December 2021. Just a month before the RRR cut in December 2021, the central bank had lowered the policy interest rate again indicating that the LPR interest rate will continue to be adjusted in January. This adjustment has a positive effect on lowering the financing cost of the real economy, improving market expectations, and preventing the continuous economic downturn. This move is also in line with the central work conference's policy tone that emphasizes stability.

Looking back at the changes in inflation and credit data from December 2021, it can be seen that, on the one hand, the price level has begun to fall, indicating that the supply-demand imbalance has improved, whereas the decline in the CPI reflects continued weak overall demand, necessitating more aggressive counter-cyclical policies. On the other hand, the growth of the social financing scale has slowed, implying that investment demand is also under pressure and that monetary aggregate and price changes are needed to gradually boost it. The PBoC's reduction of MLF and reverse repo rates this time will not only have a positive effect on improving expectations but will also further guide the decline in real interest rates and improve consumption and investment demand.

The present reduction in policy interest rates, according to ANBOUND, demonstrates China's forward-looking monetary policy, which is conducive to improving market expectations. The global monetary environment will experience changes in the trend, which is guaranteed to produce external shocks to the Chinese economy and financial market in 2022 if the Federal Reserve proposes to expedite the reduction of easing, raise interest rates and decrease the balance sheet. Taking advantage of the time window to make adjustments will not only enable China to ease the downward pressure on the domestic economy but also release policy space to accommodate for changes in the external environment.

In the event that the volatility of the US dollar increases and the risk surrounding the RMB exchange rate persists, a relatively loose policy that serves as a time-for-space exchange is also an expedient option.

As the economic situation in the first quarter of this year faces the impact of COVID-19 again, monetary policy still needs to be further loosened to avoid a continued contraction in the service and consumption sectors. In the real estate field, although the policy has been relaxed, the development of the real estate market under the regulation is still inertial and further decline needs to be prevented. Therefore, maintaining a continuous loose monetary policy will have a positive effect on stabilizing the real estate market and preventing risk spillovers. The reduction of policy interest rates will also reduce financing costs for local governments who are facing increasing debt repayment pressure, and this will help maintain the stability and sustainability of local government debt and provide favorable financial environment for the implementation of fiscal policies. Observing these situations and trends, researchers at ANBOUND believe that in the future, structural policies or price adjustments can continue to push the overall interest rate level down using a precise approach, increase support for the real economy, and strive to allow the economy to achieve a "soft landing" in the first half of this year.

Final analysis conclusion:

The PBoC has continued to implement a series of actions, such as decreasing the policy interest rate, in response to the persistent downward pressure on the economy, which has a good effect on stabilizing the economy. Under unpredictable circumstances, such as the recurrence of the COVID-19 cases, the central bank's monetary policy is likely to be further loosened in terms of time and space to provide a "soft landing" for the country's overall economy.

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