The People’s Bank of China (PBoC) Saturday cut both its 1-year lending rate and 1-year deposit rate by 25bp to 5.35% and 2.50% respectively. Interestingly the PBoC’s main argument for cutting interest rates was concern about the recent decline in inflation and possible risk of deflation.
So far macroeconomic policy in China has been guided broadly by a floor for GDP growth (7.5% in 2014) and a ceiling for inflation (3.5% in 2014). However, it has been unclear to what degree there is a lower bound for the inflation acceptable for the Chinese government and how low a possible lower bound is. CPI inflation in January declined to 0.8% y/y from 1.5% y/y in December driven in our view mainly by distortions from the timing of the Chinese New Year public holiday. We expect inflation to rebound to close to 2% y/y in February before normalizing around 1.5% y/y in March.
The Chinese government will announce the main macroeconomic targets for 2015 in connection with the National People’s Congress (NPC) that convenes on 5 March, later this week. It will be a major surprise if the target for GDP growth is not cut to 7.0% in 2015 from 7.5% in 2014. There is also ample room to cut the inflation target from 3.5% in 2015, albeit at this stage it is more important to signal a lower bound for inflation or a more explicit inflation target.
China’s manufacturing PMIs were overall better than expected in February. The official manufacturing PMI in February improved to 49.9 (Cons: 49.7, DBM: 50.0) and the HSBC/Markit manufacturing PMI in its final reading improved to 50.7 (revised up from 50.1) from a final reading of 49.7 in January. The substantial upward revision of the HSBC/Markit manufacturing PMI suggests that late responders have been more positive. While the manufacturing PMIs suggest that the Chinese economy remains relatively subdued, there are tentative signs of stabilisation. It is also worth noting that the manufacturing PMIs are not yet at levels that are usually associated with aggressive easing from the PBoC.
With the PBoC currently having a clear easing bias in monetary policy there is also increasing speculation in the market that the PBoC will target a weaker CNY to support growth and ease deflationary pressure. The PBoC this morning raised the reference exchange rate for USD/CNY (used to fix the daily trading band) by 0.06%. That said, in the big picture it is too early to conclude that PBoC is targeting a weaker CNY (see chart below). At the moment USD/CNY is trading at is ceiling in the daily trading band and the PBoC is intervening in the FX market to keep USD/CNY within the daily trading band. This is draining liquidity in the interbank market and hence in isolation working against the PBoC’s intention of lower interest rates.
This publication has been prepared by Danske Bank for information purposes only. It is not an offer or solicitation of any offer to purchase or sell any financial instrument. Whilst reasonable care has been taken to ensure that its contents are not untrue or misleading, no representation is made as to its accuracy or completeness and no liability is accepted for any loss arising from reliance on it. Danske Bank, its affiliates or staff, may perform services for, solicit business from, hold long or short positions in, or otherwise be interested in the investments (including derivatives), of any issuer mentioned herein. Danske Bank's research analysts are not permitted to invest in securities under coverage in their research sector.
This publication is not intended for private customers in the UK or any person in the US. Danske Bank A/S is regulated by the FSA for the conduct of designated investment business in the UK and is a member of the London Stock Exchange.
Copyright () Danske Bank A/S. All rights reserved. This publication is protected by copyright and may not be reproduced in whole or in part without permission.
Recommended Content
Editors’ Picks
EUR/USD stabilizes near 1.0800 as trading action turns subdued
EUR/USD holds steady near 1.0800 on Thursday and remains on track to end the day in negative territory following upbeat macroeconomic data releases from the US. The action in financial markets turn subdued as trading volumes thin out heading into Easter holiday.
GBP/USD extends sideways grind above 1.2600
GBP/USD fluctuates in a narrow channel above 1.2600 on Thursday. The better-than-expected Initial Jobless Claims data from the US and the upward revision to the Q4 GDP growth help the USD stay resilient against its rivals and limits the pair's upside.
Gold pulls away from daily highs, holds above $2,200
Gold retreats from daily highs but holds comfortably above $2,200 in the American session on Thursday. The benchmark 10-year US Treasury bond yield stays near 4.2% after upbeat US data and makes it difficult for XAU/USD to gather further bullish momentum.
XRP price falls to $0.60 support as Ripple ruling doesn’t help Coinbase lawsuit against SEC
XRP programmatic sales ruling by Judge Torres was completely rejected by another US Court that ruled in favor of the SEC in a lawsuit against Coinbase.
Portfolio rebalancing and reflation trades emerge into Q2
Yesterday’s price action pointed at a possible end-of-quarter portfolio rebalancing as the session saw the laggards of the quarter like Apple and Tesla gain, and the stars like Microsoft and Nvidia retreat.