China carries out its first interest rate cut since January

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The People’s Bank of China (PBOC, the Chinese central bank) today carried out its first interest rate cuts since last January in the face of the slowdown in the recovery of the national economy.

In a statement, the institution confirmed the reduction by 10 basis points of medium-term loan services (MLF) to one year and reverse repurchase agreements (“repos”) to 7 days, placing both types at new historical lows.

The operations announced today are an injection of 400 billion yuan (59.186 billion U.S. dollars, 57.761 billion euros) via one-year MLF with an interest of 2.75% and another 2 billion yuan (296 million U.S. dollars, 289 million euros) through 7-day “repos” with an interest of 2%.

The central bank said that the decision is aimed at “maintaining reasonable and sufficient liquidity in the banking system,” and that the announced operations “fully meet the needs of financial institutions.”

“Repos” serve the PBOC to inject short-term liquidity into the banking system, while MLFs are its main tool for financing banks and also serve as a guide for reference interest rates, called LPRs (reference rate for loans).

SURPRISING BUT INSUFFICIENT

Julian Evans-Pritchard, an analyst at British consultancy Capital Economics, said today’s rate cuts come as a “surprise” as most experts predicted Beijing would keep them intact.

In recent months, the PBOC maintained its reluctance to lower rates despite the setback for the economy caused by the lockdowns and other restrictive measures imposed to tackle the worst outbreaks of covid in two years, caused by the contagious variant ómicron.

The central bank’s refusal was driven by fears of debt risks, further downward pressure on the yuan and rising consumer price index, capital economics said, adding that this turnaround is due to the “weak inertia” of July economic indicators and slowing credit growth.

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Evans-Pritchard clarifies that the cuts announced today will not mean a noticeable change in liquidity conditions because interbank rates are already below those of the PBOC, so that banks do not have a great demand for financing from the central bank.

The expert does now anticipate a reduction in the LPR – its next update is scheduled for next Monday, August 22 – which will lower the interest on existing loans and the price of new loans, thus relieving some of the pressure faced by the most indebted companies.

However, in his opinion, interest rate cuts may not be enough to revive the credit rebound, since the current weakness is “partially structural”, derived from the “loss of confidence in the real estate market and the uncertainty caused by the constant disruptions caused by China’s ‘covid zero’ strategy”.

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