The People’s Bank of China (PBoC) has announced it will cut the reserve requirement for commercial banks by 50bp across the board. The move today came as a surprise to the market, because earlier this morning the focus was on comments from PBoC advisor Xia Bin suggesting that China will not ease monetary policy.
We have for some time argued that the PBoC would cut the reserve requirement soon, because inflation is now declining fast and the PBoC is undershooting its target for money supply growth. China is now moving economic policy in a more growth supportive direction and the earlier-than-expected cut suggests that the policy response possible could be stronger than we currently expect.
We expect at least one more cut in the reserve requirement but maintain our view that this is not the start of a major easing and, in particular, we do not expect PBoC to cut its leading interest rates unless growth continues to disappoint.
Details:
The PBoC has announced that the reserve requirement ratio (RRR) for commercial banks will be cut by 50bp across the board. The implication is that the RRR will be cut from 21.5% to 21.0% for the major commercial banks and by 50bp to 19% for small banks. For the market, this is probably a surprise move, because earlier this morning there was considerable focus on comments from PBoC advisor Xia Bin suggesting that PBoC would not ease monetary policy.
Assessment and outlook
Our view has for some time been that PBoC would probably cut the RRR soon, albeit we did not expect the cut until early January next year. In our view, the most important targets for PBoC now leave room to ease, particularly if growth disappoints. Most importantly, we expect inflation to plunge in the coming months. In November, we expect CPI inflation to fall sharply from 5.5% y/y to 4.4% and we think inflation will fall below 3.5% y/y in Q2 12 (see chart). As seen in the bottom chart, PBoC is currently undershooting its target for M2 money supply growth. M2 is currently 10% 3M/3M AR, which is substantially below the PBoC’s 16% target for 2011. We expect the 16% target for money supply growth to be maintained for 2012, implying that the PBoC will allow stronger M2 growth in coming months.
Today’s cut in RRR underscores that economic policy in China is moving in a more growth supportive direction. We expect at least another cut in RRR and the earlier-than-expected cut in RRR suggests that the easing moves from China could be more forceful than we currently expect, possibly including interest cuts and fiscal stimulus. However, we maintain our view that today’s cut is probably not the start of monetary and fiscal easing on a massive scale.
Part of the more growth supportive policy will, in our view, be that the appreciation pace of the CNY against the USD slows from +5% annually to around 3% annually. At the moment, financial markets discount virtually no appreciation of the CNY against the USD.
Although there is downside risk to our growth forecasts for Q4 11 and Q1 12, we maintain our view that growth will improve to close to potential in H1 11, from 6-7% q/q AR currently. Today’s cut should also be positive for risk sentiment and commodity prices, albeit the European debt crisis will continue to be the main driver for risk sentiment.
We have for some time argued that the PBoC would cut the reserve requirement soon, because inflation is now declining fast and the PBoC is undershooting its target for money supply growth. China is now moving economic policy in a more growth supportive direction and the earlier-than-expected cut suggests that the policy response possible could be stronger than we currently expect.
We expect at least one more cut in the reserve requirement but maintain our view that this is not the start of a major easing and, in particular, we do not expect PBoC to cut its leading interest rates unless growth continues to disappoint.
Details:
The PBoC has announced that the reserve requirement ratio (RRR) for commercial banks will be cut by 50bp across the board. The implication is that the RRR will be cut from 21.5% to 21.0% for the major commercial banks and by 50bp to 19% for small banks. For the market, this is probably a surprise move, because earlier this morning there was considerable focus on comments from PBoC advisor Xia Bin suggesting that PBoC would not ease monetary policy.
Assessment and outlook
Our view has for some time been that PBoC would probably cut the RRR soon, albeit we did not expect the cut until early January next year. In our view, the most important targets for PBoC now leave room to ease, particularly if growth disappoints. Most importantly, we expect inflation to plunge in the coming months. In November, we expect CPI inflation to fall sharply from 5.5% y/y to 4.4% and we think inflation will fall below 3.5% y/y in Q2 12 (see chart). As seen in the bottom chart, PBoC is currently undershooting its target for M2 money supply growth. M2 is currently 10% 3M/3M AR, which is substantially below the PBoC’s 16% target for 2011. We expect the 16% target for money supply growth to be maintained for 2012, implying that the PBoC will allow stronger M2 growth in coming months.
Today’s cut in RRR underscores that economic policy in China is moving in a more growth supportive direction. We expect at least another cut in RRR and the earlier-than-expected cut in RRR suggests that the easing moves from China could be more forceful than we currently expect, possibly including interest cuts and fiscal stimulus. However, we maintain our view that today’s cut is probably not the start of monetary and fiscal easing on a massive scale.
Part of the more growth supportive policy will, in our view, be that the appreciation pace of the CNY against the USD slows from +5% annually to around 3% annually. At the moment, financial markets discount virtually no appreciation of the CNY against the USD.
Although there is downside risk to our growth forecasts for Q4 11 and Q1 12, we maintain our view that growth will improve to close to potential in H1 11, from 6-7% q/q AR currently. Today’s cut should also be positive for risk sentiment and commodity prices, albeit the European debt crisis will continue to be the main driver for risk sentiment.