As China’s economy begins to stutter, what’s next for its monetary policy?
- Analysts expect additional bank reserve requirement ratio cuts this year
- Cuts in the reserve ratio are a go-to way to boost lending to the economy
The order came after Chinese Premier Li Keqiang met with top financial regulators to address the need to shelter Chinese businesses from external shocks and to stabilise the economy.
As China continues to grapple with the effects of an economic slowdown domestically and a trade war with the United States externally, the RRR is likely to be a key element of its monetary policy this year.
What does it mean to cut the RRR?
Chinese banks, as with banks in other major countries, are required to hold a minimum amount of capital at the central bank to guard against potential losses, expressed as a ratio of a bank’s outstanding loans. By cutting this ratio, banks are required to hold less in reserve and, in theory, have more money to lend. This should release cash into the real economy, help generate economic activity and, in turn, boost growth.
Why cut the RRR now?
Slashing the RRR is likely to be a key tool for the PBOC this year, as it is a way of controlling one-time additions to market liquidity, carefully calibrated to the needs of the economy, without having distortional effects elsewhere in the economy.
In theory, PBOC Governor Yi Gang has significant leeway to cut the ratio, which now stands at 13.5 per cent for large state-owned banks, much higher than in other large economies.
In the US, where the ratio is placed on deposits themselves rather than the banks holding them, large savings deposits have an RRR of 10 per cent, while small deposits do not have any minimum reserve holding requirement at all. In the European Union, the ratio is 1 per cent, while it ranges from 0.05 per cent to 1.2 per cent for banks in Japan.
The market widely expects an additional cumulative cut of 100 to 200 basis points in China this year, depending on the economy’s performance over the course of 2019.