Are Chinese Rate Cuts an Ominous Sign?

China once again took measures to stimulate the economy which was a surprise to the market. The PBOC are worried about a slowdown in China’s economy, but this is at odds with the latest GDP figures. Does the PBOC know something about the direction of the economy that we don’t?

Late on Friday, China announced it was cutting interest rates for the sixth time in a year. One year deposit rates were cut by 25 basis points to 1.50%, with one year lending rates cut by the same amount to 4.35%. The PBOC did not stop there, cutting the RRR by a further 50 basis points "in order to maintain reasonably adequate liquidity in the banking system, guide steady moderate growth of money and credit."The RRR has been slashed from 20.0% to just 17.5% currently less than a year.

China also removed the deposit rate ceiling in an attempt to move towards a more free market banking system. The PBOC had set the deposit rates for commercial banks, along with a floor on the lending rate which effectively channelled savers money into state-guided borrowing. Two years ago the lending rate floor was removed and last week the deposit ceiling was removed too.

The PBOC have been busy this week as well, announcing today a cut to rates on seven day reverse repos (repurchase agreements) by 10 basis points to a yield of 2.25%. This is the first cut to repo rates since August and again is designed to keep short term capital requirements cheap for banks and businesses.

The market was taken largely by surprise by the moves, after a solid GDP result at 6.9% y/y earlier last week. The result was questioned by many and the latest moves by the PBOC raise further questions about the state of the Chinese economy. Many economists believe the actual figure to be closer to 3-4% mark.

The PBOC said that changes in the CPI are not in line with changes in GDP, which is the reason for the rate cuts. Inflation is at 1.6% y/y and GDP is (supposedly) just a shade under 7%. If any other central bank had these figures they would most certainly not be cutting. So what does the PBOC know? Are the rate cuts a pre-emptive measure of a marked slowdown in the Chinese economy?

Chinese trade has suffered considerably and point to some serious problems in the economy. Exports are down -3.7% y/y and imports are down a staggering -20.4% y/y. The Chinese manufacturing PMI is sitting at 49.8, and that’s the official figure, who knows what the real level is. The Chinese PPI is down -5.9% y/y and New Loans fell from CNY 1.48t to 0.81t m/m.

The moves by the PBOC on monetary policy are slightly perplexing at best and ominous at worst. It is true that other central banks are easing, so they could be following suit, however, it’s possible the situation is much worse that officials are reporting. Given the difficulty of getting a clear picture on the Chinese economy, we may not know until it’s too late.