At a time when major central banks the world over are hamstrung in their capacity to bolster growth and inflation by the proximity of policy rates to the lower bound and a lack of room on bloated balance sheets, you might be tempted to suggest China is in an enviable position.
After all, the PBoC has plenty of room to cut rates and if you’re inclined to ask “which rate?”, I would respond as follows: “Exactly”.
The point: China not only has considerable scope to cut rates further, they also have a dizzying array of rates they can cut. There are no shortage of levers to pull, although that’s not to say that pulling them always results in a jackpot when it comes to engineering the desired outcomes in terms of credit creation and looser liquidity. In fact, the monetary policy transmission channel in China has been somewhat clogged over the last year.
Over the summer, Beijing moved to simplify what might generously be described as a two-track rates regime. It’s actually more “multi-track”, but the decision to revamp the loan prime rate and price it off the medium-term lending facility was a step towards unification, albeit one that still allows for considerable flexibility when it comes to influencing the monthly LPR fixing.
The recent decree mandating that the existing stock of loans be converted to the revamped LPR effectively means the old benchmark rate is dead, and because the LPR is i) priced off the MLF rate, and ii) 20bps lower than the now defunct one-year lending rate, the transition to pricing all outstanding loans off LPR means a more dynamic system (as the PBoC’s OMO actions will be transmitted more efficiently) and another bit of stealth easing, respectively.
Throw in the multi-tiered RRR regime (with Wednesday’s broad move set to take effect on January 6) and the PBoC has at least a half-dozen different dials it can turn to influence liquidity conditions and, ideally, credit creation.
As enviable as all of that might sound to policymakers in other locales who possess comparatively few levers, it’s also complicated as hell, sometimes trips over itself and isn’t always effective, as evidenced by persistently elevated weighted average loan rates.
To be sure, China is pleased that it possesses considerable flexibility and breathing room when it comes to monetary policy – they’ve said as much. But one challenge Chinese policymakers face in delivering incremental cuts and turning various and sundry dials at regular intervals, is avoiding the perception that Beijing is constantly cutting rates and easing policy.
Why does that matter? Isn’t it bullish when the world’s second-largest economy is cutting rates and otherwise taking steps to boost liquidity?
Well, yes, but there’s a certain “very stable genius”, whose “very large brain” isn’t enamored with the prospect of America’s trading partners cutting rates and injecting liquidity when the Fed is reluctant to do the same. Indeed, Donald Trump has repeatedly lambasted China on Twitter for monetary easing, despite the fact that Beijing has gone out of its way to emphasize that there will be no “flooding” of the system with stimulus – monetary or otherwise.
This will be a particularly delicate balancing act in 2020 as the “Phase One” deal comes into effect and the two sides discuss next steps.
SocGen’s Kit Juckes on Thursday underscored the dilemma in a short note.
“So far this year (i.e., yesterday and today!) we have some pretty conflicting signals”, he wrote, noting that the latest RRR cut “seems like another sign that monetary policy will take on a bigger role in stabilizing the economy this year than in 2019”.
That’s not necessarily something that’s conducive to yuan strength, and if there’s anything that irritates Trump, it’s a weak yuan. Of course, the US president is his own worst enemy when it comes to triggering bouts of depreciation in the Chinese currency.
Just as Beijing has all manner of ways to influence liquidity conditions, so too does it have ample capacity to dictate where the yuan trades. That means any weakness brought about by monetary policy can be countered before it irritates the White House.
In that context, Juckes highlights how this push-pull has already manifested itself in the new year.
“On the other hand, with the US/Chinese Phase 1 trade deal due to be signed in 2 weeks’ time, the USD/CNY fix was set at its lowest level since early August”, he said, adding that “China appears to want to keep the currency steady even as monetary policy easing continues”.
Whether or not that’s a sustainable tug-of-war will be interesting to watch this year, and you’re not wrong if you’re tempted to point out that there’s something inherently unsustainable about “tug-of-wars”.
Juckes also notes that although yuan vol. isn’t extremely elevated versus its average over the past several years, it sticks out like a sore thumb versus the yen and the euro, which are unusually somnolent.