China money rates shoot up as tightening worries rise

China’s primary short-term money rates rose on Wednesday in a delayed reaction to signals from regulators they are considering tightening liquidity to tamp rising inflationary pressure.

A policy adviser to the People’s Bank of China (PBOC) said on Tuesday that the authority may tighten cash conditions in the financial system to address inflation risks.

The benchmark seven-day repo contract, which has been on a steady slide since October 9, rose steeply in the morning session with quotes as high as 4.55 per cent, up more than a full percentage point from the previous final closing quote.

Beijing is concerned that unexpected rises in inflation and property prices may be partly attributable to liquidity washing into the interbank market from capital inflows and fiscal deposits.

Government tax revenues deposited in Chinese commercial banks have grown so large that regulators have been able to use them as a monetary policy tool.

In September, purchases of foreign exchange by the People’s Bank of China (PBOC) and Chinese commercial banks soared. The total, on a net basis, was 126.4 billion yuan (US$9.52 billion), compared with August’s 27.3 billion yuan.

The purchases imply there are rising capital inflows seeking to exploit an ongoing rally in the yuan. In order to sterilise the impact of such inflows, the PBOC buys dollars and sells yuan – which adds liquidity to the domestic market.

In another signal that mild tightening may be under way, the PBOC abstained from open market operations on Tuesday for the second consecutive session, leaving the interbank market set to drain another 58 billion yuan this week – unless the bank injects or drains funds during coming operations on Thursday.

The central bank has already drained a net 99.5 billion yuan from the money market since the end of September.

Worrying home prices

Official data showed house prices rose the most in nearly three years in September, with some cities posting double-digit gains. Entrenched real estate inflation is considered a major systemic risk by economists, as it can divert capital from more productive uses and simultaneously reduce the ability of Chinese consumers to spend on other things.

The net impact of trade in the benchmark seven-day repo contract has brought the instrument’s volume weighted average price (VWAP) back above four per cent, which traders say indicates moderately tight conditions.

The overnight repo rate also rose, with its VWAP gaining 70 basis points to 3.79 per cent by midday.

“Traders are a bit more nervous today compared to yesterday,” said a trader at a major state-owned bank in Shanghai. But she added that there was no shortage of liquidity, so the higher rates were more reflective of increasing cautious sentiment.

Rates initially showed little sign of reaction when the PBOC stayed on the sidelines on Tuesday, but the nature of contract settlement in the interbank market frequently causes rates to post a delayed reaction to moves by the central bank.

The trader said her peers would be watching what the bank did during regularly scheduled open market operations on Thursday. There were no signs of panic similar to what occurred during a cash crunch in June when some rates were quoted as high as 30 per cent, she said.