China’s Nov. 21 decision to cut interest rates was not a surprise, if economic indicators are considered.
Going into the fourth quarter, the Chinese economy was showing further signs of slackening. Among the economic indicators, three — which are closely watched by Premier Li Keqiang as barometers of how the economy is doing — turned for the worse in October.
Freight volume came in at 3.89 billion metric tons, up 4.8 percent but significantly lower than the year’s average of 7.3 percent. Electricity consumption was 450.8 billion kWh, 3.1 percent higher than the average of 3.8 percent. Credit growth also slowed as M2, a broad measure of money supply, jumped 12.6 percent at the end of October. The increase was 1.7 percentage points lower than a year ago.
Those worrying signs convinced top policymakers that the economic growth could slow to 7.2 percent, a psychologically important bottom line to ensure employment.
But the interest rate cut, the first since July 2012, was also a surprise, if the government stance is considered.
Previously, the government used “targeted and selected” monetary loosening policies to bolster economic growth. It lowered the required reserve ratios for rural lenders and selected city commercial banks, as well as used short-term financial tools to boost liquidity.
Despite calls from market participants, the central government had been reluctant to cut benchmark interest rates. So in this sense, last week’s rate cut came as a kind of surprise.
The rate reduction can be interpreted in two different ways.
It can be seen as a compromise from the central government as the economy is worsening. The rate move hence signals a shift of government stance. Chances are high that more rate cuts will be used to shore up economic growth.
Another way of looking at it is that it’s a one-time bonus from the central government to local units in a tradeoff for more austerity measures and power checks next year.
The central bank last week cut the benchmark lending rate by 40 basis points.
The bank typically cuts the rate by 25 basis points. Moreover, the benchmark deposit rate this time was reduced by only 25 basis points, smaller than the reduction in the benchmark lending rate.
These decisions help slash financing costs and increase liquidity in the economy. The asymmetric rate cuts could be a generous bailout to meet appeals from local governments, probably the last before the central government decides to seriously clear local debt and investments problems.
There are a number of things to watch after the rate cut.
First of all, the performance of the property market deserves attention.
Usually, a rate cut, which slashes loan costs, gives a shot in the arm to the real estate sector. Whether it can work this time, however, is in doubt.
In past months, the government loosened restrictions on home purchases and loans but those policies didn’t help the declining property market. Housing prices kept going down and transaction volumes kept shrinking.
The correction in the property market is a result of oversupply. That’s why policy loosening did not bring its effect to full play.
In October, the property market recovered slightly. Whether this recovery is a good start and whether a credit loosening can reverse the weak market remains to be seen.
The property sector is still an important economic engine. The way the central government handles the sector will tell whether it’s worth investing in this sector.
The renminbi’s movement after the rate cut is another thing to watch.
The rate cut could mean the renminbi will not continue to appreciate too much and chances are that the yuan will tip into a downward trend.
As top policymakers have made up their minds about increasing the two-way movement of the Chinese currency, they will be glad to take the opportunity offered by the rate cut to formally stop the one-way appreciation of the yuan.
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