The People’s Bank of China (PBoC) announced it will reduce banks’ reserve requirement ratios (RRR) on December 6 after Premier Li Keqiang signaled to cut the RRR in a “timely way”. The PBoC decided to cut the RRR for financial institutions by 0.5 percentage points on December 15, 2021 (excluding those that have implemented the 5% RRR) to support the development of the real economy and promote the steady reduction of comprehensive financing costs, the PBoC said. After the RRR cut, the weighted average RRR for financial institutions will be 8.4%. Such a rapid implementation of the RRR reduction measures can be said to be unusual. First, the time between the release of the policy signal and the implementation of the policy is very tight. It took only three days from Premier Li's speech to the implementation of the policy, which is faster than expected. Second, the PBoC cut the RRR in December in a rare move in history, with the exception of a similar move in 2008 during the global financial crisis. In ANBOUND's view, these differences suggest that the RRR cut has special implications.
The RRR cut means that ANBOUND's previous judgment on policy "tightening before and loosening after" has gradually come true. It should be emphasized that the rapid implementation of the RRR cut should be related to the severity of the current economy, reflecting the urgency of monetary policy adjustment. Although this year's economy has recovered faster than that of the pandemic period, and the annual economic growth may reach 8%, the economic growth in the first three quarters of this year showed a significant slowing trend. At the current pace, the economy could stall in the fourth quarter of this year. Meanwhile, it will be difficult to maintain economic growth in the first quarter of next year due to the base effect (a strong rebound in the first quarter of this year) and the persistence of the pandemic. In this case, the significance of monetary policy adjustment before crossing the annual cycle not only lies in the cross-cycle effect of policy and maintaining continuous support for the economy, but also indicates that the severity of the economic situation makes the adjustment urgent and requires greater counter-cyclical adjustment to achieve the goal of "stable growth".
In terms of risk prevention, the risks of Evergrande Group are gradually being unveiled, and the default of Evergrande Group is almost certain. Moderate monetary easing at this time will provide new incremental support to financial institutions and capital markets and prevent risks from spreading from the real estate market to the financial sector and the real economy, thus playing a positive guiding role. Evergrande Group has a debt scale of RMB 2 trillion. Although the default risk of Evergrande Group has long been expected by the market, the potential impact of its default risk is 4 times that of Baoshang Bank. Once a problem occurs, it will not only be unbearable for Guangdong, but also affect the market and financial institutions in many places across the country. To prevent and control this emerging systemic risk, it is also necessary for the PBoC to provide support and liquidity to the market. Monetary easing would help to restore market confidence and avoid macroeconomic damage brought about by the turmoil in financial institutions.
It should be noted that the RRR cut this time is actually more of a "moderately accommodative" policy than a full-blown easing. "Part of the funds unleashed will be used by financial institutions to repay maturing medium-term lending facilities (MLFs), and part will be used to replenish their long-term funds to better meet the needs of market players. The PBoC will continue to pursue a normal monetary policy, ensure its continuity, consistency, and sustainability, and refrain from adopting indiscriminate stimulus measures to create a favorable monetary and financial environment for high-quality development and supply-side structural reforms," the PBoC said. The PBoC once again stressed "not to engage in indiscriminate stimulus measures", and the significance of this is self-evident.
Given that the RMB 1.2 trillion of liquidity released by the RRR cut will hedge against the RMB 950 billion of MLF due on December 15, the actual amount of funds injected into the market by the RRR cut will be limited, equivalent to the previous RMB 200 billion-300 billion of reverse repos. Therefore, the actual effect of this comprehensive RRR cut is limited and it is still a measure of "precise regulation". The RRR reduction, on the one hand, will lower the funding costs of commercial banks by about RMB 15 billion. On the other hand, it will help banks release long-term funds, reduce the uncertainty of policy funds such as reverse repos and MLF, and help stabilize market expectations.
With the complex changes within China and in the international situation, it is a great challenge for the PBoC and other policy departments to establish stable expectations and grasp the economic trend in the face of increased economic instability and uncertainty. On the one hand, with the high macro leverage ratio, the effects of some policy tools have been attenuated. On the other hand, structural contradictions and demand-side contradictions are intertwined, and structural policies are still needed to achieve the goals of "stable growth" and "risk prevention". This is why the PBoC has repeatedly emphasized a "prudent" monetary policy stance.
In the view of researchers at ANBOUND, monetary policy should not be overly accommodative, but neither should it be idle. In view of the severe situation of the current economy and the increasing pressure on future growth, the cross-cyclical monetary policy still needs to seize the opportunity, increase support for stable growth, appropriately adjust the policy rate within the limited space and time to reduce the financing cost of the real economy, adjust the demand, and establish a more friendly policy environment for next year's economic development.
Final analysis conclusion:
The PBoC's rapid implementation of a comprehensive RRR cut implies that the situation of China’s economic slowdown is not exactly optimistic. Monetary policy has sent out positive signals, and its effect on stabilizing expectations is far greater than the actual effect of the RRR cut. Considering the pressure of cross-cycle economic growth this year and next, the PBoC can still consider more policy tools and moderately increase support for stable growth in the future.
