Amid the challenges facing China’s economy, the People’s Bank of China (PBoC) has decided to cut short-term interest rates. This move aims to stimulate economic growth and provide more favorable conditions for businesses and banks to access capital. The rate reduction not only helps increase liquidity but also alleviates pressure on other sectors of the economy, which are heavily affected by both domestic and international factors.
So, how was this interest rate cut decision made? What is its impact on the financial market and the economy? Let’s explore further.
Bank of China PBoC’s interest rate cut decision
On September 23, the PBoC decided to reduce the interest rate on reverse repurchase agreements (reverse repos) from 1.95% to 1.85%. This is a type of transaction where the central bank sells securities to commercial banks but commits to repurchasing them after a short period. This helps the PBoC inject money into the banking system, increasing liquidity, and ensuring that commercial banks have sufficient resources to provide credit to the economy.
In addition to cutting interest rates, the PBoC injected 74.5 billion yuan, equivalent to around 10.6 billion USD, into the banking system. This significant amount of money aims to ensure liquidity in the banking system ahead of the seven-day National Day holiday, during which liquidity demand is typically high.
Details of the interest rate cut
This rate cut is not the first in 2024. Previously, in July, the PBoC implemented interest rate cuts to ease the burden on the financial system and businesses. This demonstrates that the PBoC is striving to maintain liquidity in the financial system and help boost economic growth amid deflationary pressures.
The interest rate cut also comes ahead of the National Day holiday, which begins on October 1, a period when demand for cash usually rises. This provides banks with additional liquidity to meet customer needs while avoiding a liquidity crunch in the financial system.
Timing and reasons for the interest rate cut
This latest interest rate cut by the PBoC comes at a time when China’s economy is facing numerous challenges. Deflationary pressures, slowing economic growth, and the impact of global economic conditions have made it necessary for China to take strong stimulus measures. The PBoC chose this moment to cut interest rates to support businesses and banks in accessing capital at lower costs.
Additionally, China is facing competition in monetary policy from other countries, particularly the United States. The U.S. Federal Reserve’s (Fed) interest rate cuts have provided China with an opportunity to ease monetary policy without weakening the yuan too much.
Previous context and earlier cuts by the PBoC
This rate cut follows the policies the PBoC has implemented since July 2024. At that time, the central bank reduced the interest rate on seven-day reverse repos by about 10 basis points. This was part of a larger plan to support the Chinese economy in dealing with deflation and slow economic growth.
In addition to cutting interest rates, the PBoC has continuously injected money into the financial system to maintain liquidity. This shows that the PBoC is employing multiple measures to promote economic growth and reduce pressure on the financial system.
Impact on financial markets and the economy
The effects include:
Market reaction to the rate cut decision
The PBoC’s interest rate cut did not come as a major surprise to the market, as it had been anticipated. Financial experts such as Frances Cheung, Head of FX and Rates Strategy at Oversea-Chinese Banking Corp, noted that this is part of a series of measures the PBoC is taking to support the economy. However, the market still reacted positively to the move, with stock indices rising after the announcement.
Impact of the decision on the Yuan
Following the PBoC’s interest rate cut, the yuan appreciated to its highest level in nearly 16 months. This was attributed to speculation that China would continue to introduce new economic stimulus measures. However, the appreciation of the yuan was curbed by state-owned Chinese banks’ purchases of U.S. dollars, preventing the currency from rising too sharply.
Base interest rates and the decision to hold lending rates steady
Although the PBoC cut short-term interest rates, in a meeting on September 20, they decided to keep the Loan Prime Rate (LPR) unchanged. The one-year lending rate remained at 3.35%, and the five-year lending rate stayed at 3.85%. This move was unexpected, especially after the U.S. Federal Reserve had aggressively cut interest rates.
Predictions and future economic outlook
Drawing on their experience and expertise, financial experts predict the following:
Prediction of continued rate cuts
Many experts predict that the PBoC will continue cutting interest rates in the coming months. According to Zhiwei Zhang, Chief Economist at Pinpoint Asset Management, the PBoC will need to continue loosening monetary policy to combat the deflationary risks threatening China’s economy.
The relationship between China’s and the U.S.’s monetary policies
China’s current monetary policy is heavily influenced by U.S. actions. The Fed’s interest rate cuts have created conditions for the PBoC to implement stimulus measures without excessively weakening the yuan. This is an advantage the PBoC is leveraging to ease monetary policy and support economic growth.
Potential futureeconomic stimulus measures
Looking ahead, it is likely that the PBoC will continue introducing additional economic stimulus measures. These could include further interest rate cuts, increased liquidity injections into the financial system, and support for key economic sectors to address the slow growth.
Conclusion
The PBoC’s decision to cut interest rates demonstrates China’s commitment to supporting its economy and addressing the current challenges. In a globally volatile environment, maintaining stability and promoting growth is a critical mission for the PBoC, and we can expect to see more measures in the coming months.