With uniformly bad data in April, the PBOC decided to cut the bank reserve requirement ratio (RRR) last night by 50bps.
As I have stressed, when the cause of the slowdown is an asset deflation, loan growth is more demand driven than supply driven. Also, we have to pay attention to the trade surplus and capital flow, as cutting the RRR can be more of a measure to offset the loss of liquidity due to a narrowing trade surplus and capital outflow. Thus cutting RRR by itself does not necessarily mean monetary easing, and it may or may not translate to faster loan growth going forward. The PBOC could potentially cut RRR back to single digit, in my view.
After the cut in the reserve requirement ratio, the RRR for large institution will be at 20%. To give you an idea of how much more the PBOC can cut in terms of the reserve requirement ratio, the ratio was at 6.0% from 1999 to 2003 after the Asian financial crisis when China was going through a period of deflation:
The chart below shows historical RRR overlay with monthly new loans:
And the chart below shows money supply growth and RRR:
In terms of interest rates, the lending rate for 1-3-year loans is set at 6.65%, and 1-year fixed deposit is set at 3.5%. There will be, I believe, some room to cut interest rates, particularly on the lending side, if promoting faster loan growth is the key objective for the central bank:
And currently, with inflation at 3.4% yoy, the 1-year fixed deposit rate in real term has once again returned to positive territory. With the economy slowing and possibly entering a renewed deflation, real interest rate could turn more positive:
