China's central bank, the People's Bank of China (PBOC), maintained its key policy rates unchanged on Monday, signaling a likely hold on the benchmark lending rate later this month. This decision comes as the nation grapples with mounting pressures on its currency and a slowing economy.
The PBOC injected 100 billion yuan ($13.79 billion) into the financial system via its medium-term lending facility (MLF), charging banks an interest rate of 2.5%. This rate has remained unchanged for the 11th consecutive month. The injection compares with maturing loans of CNY103 billion due this month, resulting in a net drain of 3 billion yuan from the banking system. This marks the fifth consecutive month without a net cash injection via the lending facility, reflecting the central bank's cautious approach.
Additionally, the PBOC offered a net injection of CNY127 billion through seven-day reverse repos to banks at an interest rate of 1.8%, unchanged from previous operations. The hold on the MLF rate suggests that China's benchmark loan prime rate, which is influenced by the MLF rate, will likely remain unchanged when it is released next Monday.
The decision to maintain the MLF rate aligns with market expectations. All nine analysts surveyed by Bloomberg predicted the rate would remain steady, and there is a consensus among economists that the one-year MLF will eventually be phased out. "The net drain suggests a hawkish tone of the PBOC for the concerns over financial stability," said Xing Zhaopeng, senior China strategist at Australia & New Zealand Banking Group Ltd. He added that the ongoing Third Plenum, a crucial meeting of China's top leadership, might outline reforms to the policy rate system, potentially reducing the role of the MLF in monetary policy.
The PBOC's decision comes amidst growing concerns over economic risks and the need to manage policy divergence from the U.S., where rate-cut bets fluctuate as inflation remains persistent. Maintaining the interest rate reflects worries that fresh monetary easing could further weaken the yuan and exacerbate capital flight, given the significant gap between U.S. and Chinese yields.
China's economic growth has slowed to its worst pace in five quarters, with GDP expanding by 4.7% in the second quarter compared to the same period last year. While industrial output in June exceeded expectations, retail sales fell short of forecasts, highlighting the uneven nature of the economic recovery.
Despite consistent support from Beijing, the yuan has depreciated by about 2% this year, as the delayed expectations for a Federal Reserve rate cut continue to favor the dollar. Following the PBOC's decisions on Monday, the offshore yuan pared earlier declines and was down 0.1% at 7.2770 per dollar after dropping as much as 0.2%.
The MLF's role in China's money market has come under scrutiny recently. PBOC Governor Pan Gongsheng indicated that Beijing is considering shifting to a short-term rate to guide markets. The proposed new system of repurchase operations, based on the seven-day repurchase rate, has heightened expectations for this rate to become the new policy benchmark.
