No Easy Options

　　Targeted reduction of the reserve requirement ratio does not indicate China is loosening its monetary policy

　　The People’s Bank of China (PBC)， the country’s central bank， on June 16 cut the reserve requirement ratio (RRR) by 0.5 percentage points for commercial banks that have met relevant requirements and reached stipulated ratios in their agro loans and lending to small and micro-sized enterprises. This is the second time in the last two months that the PBC has reduced the RRR for targeted financial institutions.

　　According to the PBC， for institutions to be eligible， their ratio of new agro loans to total new loans had to be more than 50 percent in the last year and the rate of agro loan outstanding to total loan outstanding had to be more than 30 percent at the end of last year. Alternatively， banks could qualify if the ratio of new loans to small and micro-sized enterprises to total new loans was more than 50 percent in the last year and the ratio of small and micro-sized enterprise loan outstanding to total loan outstanding had been more than 30 percent at the end of last year.

　　Based on these standards， the current round of targeted reduction covers about two thirds of the country’s city commercial banks， 80 percent of rural commercial banks that are not incorporated at the county level， and 90 percent of rural cooperative banks that are not incorporated at the county level.

　　Targeted reduction of RRR has been interpreted by market observers as a sign that China will ease its monetary policy. China’s stock prices also rose after the news broke. A country may ease its monetary policy in three ways： increasing loans， cutting interest rates and overall RRR cuts. The recent two targeted RRR cuts are considered by some to be a trial for an overall cut.

　　However， the central bank denied this surmise. The PBC said that this round of targeted RRR cuts is designed to encourage financial institutions to allocate more funds to the areas in the real sector that need financial support， and to make sure monetary policy is transmitted more smoothly to the real economy. At present， liquidity is generally sufficient and the stance of monetary policy has remained unchanged. The PBC has thus announced it will maintain its current course.

　　Will it work？

　　Guo Tianyong， Director of the Center for Chinese Banking Studies of the Central University of Finance and Economics， said that this time， the central bank didn’t specify which banks qualify for RRR cuts， but instead set out the required ratios for agro loans and lending to small and micro-sized enterprises. Compared with the previous round of RRR cuts， this round covers many more financial institutions. It is estimated that the recent RRR cut will provide a liquidity boost of than 200 billion yuan ($32.52 billion) to the market.

　　Guo said that against the backdrop of China’s economic growth slowdown， structural adjustment has become a more important target for macro-control and will affect the sustainability of the country’s development in the future. Targeted RRR cuts represent a measure of structural adjustment through inputting funds to the agricultural sector and small and micro-sized enterprises.

　　Rather than the risky business of lending to small and micro-sized enterprises， small commercial banks and city commercial banks prefer interbank business that carries low risks but high returns. It is not yet certain whether or not banks will really allow the released liquidity to flow to the agricultural sector and small and micro-sized enterprises.

　　Guan Qingyou， Deputy Director of the Research Institute of Minsheng Securities Co. Ltd.， says targeted RRR cuts are designed to ensure stable economic growth， but even this measure cannot change the financial institutions’ reluctance to lend. Even if financial institutions do grant credit， the money will inevitably find its way to financing platforms and the industries with excessive capacity.

　　Wang Yong， an analyst with CITIC Securities Co. Ltd.， thinks China’s top leadership is continuously making adjustments， demonstrating flexibility. In the first half of last year， it stressed that it would not attempt to stimulate economic growth， and in the second half， it pledged not to use “strong stimulus” policies. This year， it began to adopt “mini-stimulus” policies to stop the slowdown of economic growth.

　　The central bank’s monetary policy closely follows the designs of the Central Government in creating a “mini-stimulus” for the economy through targeted RRR cuts. However， the measure implies that the central bank also thinks there is not enough liquidity in the market， at least in some sectors. The key requirement for targeted RRR cuts to work is that liquidity reaches the agricultural sector and small and micro-sized enterprises， thus improving the credit structure. The policy remains experimental and as yet unproved.

　　Adapting to the economy

　　Sheng Songcheng， Director of the Statistics and Analysis Department of the PBC， said the reason the central bank did not introduce an “across-the-board” RRR cut is that the conditions in China are not fit for such a measure.

　　According to figures from the National Bureau of Statistics， China’s economic growth has been slowing down since the fourth quarter of 2010. In the first quarter this year， China’s GDP grew by 7.4 percent， the lowest in the last 18 years. This is also lower than the target of 7.5 percent set by the Central Government for the whole year. Market investors have therefore speculated that the central bank will soon relax monetary policy in order to prevent the further slowdown of economic growth.

　　However， the central bank thinks that although Chinese economic growth has declined， the 7.4-percent growth registered in the first quarter is still acceptable， and the employment rate remains steady. As opposed to the situation in the same period last year， when the interbank borrowing rate soared and commercial banks faced a cash crunch， currently the interbank borrowing rate remains low， newly increased funds outstanding for foreign exchange is not decreasing remarkably and market liquidity is still ample. For these reasons， the PBC will continue to implement a sound monetary policy and keep liquidity at a reasonable volume so as to maintain steady economic performance.

　　Sheng said when it comes to the matter of ensuring economic growth， people should not focus solely on monetary policy. The effect of monetary policy in stimulating economic growth is limited， and there will be serious side effects to quantitative easing. For the purposes of long-term growth， such “quick-fix measures” are no replacement for comprehensive reform.

　　Liu Yuhui， a professor with the Chinese Academy of Social Sciences， said China needs an appropriate monetary policy to guard against risks of economic slowdown， but at present， it is not appropriate to adopt a policy of monetary easing.

　　According to Liu， having experienced the cash crunch last year， the market had anticipated monetary policy easing， but the central bank is determined to keep market liquidity steady. The Chinese economy has been engaged in deleveraging since 2010， but the process has been very slow because overall economic growth and corporate profitability have both dropped. Chinese companies are highly reliant on debt financing and their leverage ratio is high， leaving little space for the central bank to engage in further monetary easing.

　　Liu said the central bank should be prudent when it considers cutting RRR and interest rates. Since the beginning of this year， the money market interest rate has been declining slowly， indicating that market liquidity is no longer so tight. Since the central bank cannot control the flow of funds if the monetary easing is introduced， the liquidity released would likely flow to industries with serious bubbles or high debt rates instead of stimulating growth of the real economy. While economic growth is weak， asset bubbles may push up inflation rates.

　　RRR and interest rate cuts may not even significantly boost the economy， because China has now fully liberalized its lending rates， and rapid development of bank wealth management products and Internet financing have also weakened the central bank’s control of its deposit interest rate. Therefore， adjusting the PBC’s interest rates would not necessarily affect their counterparts in the real economy.

　　Moreover， China’s interbank market does not lack money now， so cutting the RRR may not boost the real economy as it has in the past.

　　According to Liu， even if the monetary policy were not to be significantly eased， money supply looks unlikely to fall short this year.

　　By Lan Xinzhen