Market Frets Over July Liquidity as Central Bank Switches Off Open Market Spigot


China’s central bank continues to shy away from open market operations following the start of the second half, with 3 July marking the ninth successive day of net liquidity contraction.

Market observers in China have expressed concerns that liquidity could be subject to uncertainty in July due to factors including maturation pressure as well as corporate tax payments, yet still generally expect the People’s Bank of China to “trim the the peaks and fill the gullies in order to keep the supply of funds stable.

PBOC refrained once again from open market operations on 3 July, on the grounds that liquidity within the Chinese banking system remains at ample levels. The maturation of 70 billion yuan in repurchase agreements made it the ninth successive day of net liquidity contraction since 21 June.

While PBOC’s efforts to shore up liquidity earlier in June led many to speculate that Chinese regulators have opted to moderate their ongoing deleveraging campaign, towards the end of the month the central bank shifted tack dramatically and starkly reduced injections for the month.

PBOC injected 540 billion yuan via open market repo operations across the opening and middle third of June, yet during the final third oversaw a net contraction of 500 billion yuan, for a net monthly injection of 40 billion yuan.

This monthly injection is even lower when medium-term lending facilities and state treasury deposit operations are included, falling to 47.6 billion yuan, and well below the figure of 149.5 billion yuan for May.

According to traders short-term funds remain ample at the start of July, with only mild scarcity in long-term capital. On 3 July the overnight repo rate rose 3bps to 2.7%, while the benchmark 7 day repo rate fell 6bps across the monthly transition to 2.84%, and the 21 day rate rose 1bps.

Many market observers remain concerned about liquidity levels for the remainder of the month, especially in light of¬†PBOC’s net liquidity withdrawal towards the end of June and the delayed onset of its cumulative impacts.

In addition to the absence of injections towards the end of June, 917.5 billion yuan in outstanding central bank instruments are slated for maturation this month, including 560 billion yuan in repurchase agreements and 357.5 billion in MLF.

Another factor compounding liquidity concerns is the start of the peak tax payment period in the second half of July, which will undoubtedly crimp liquidity, and lead to a sizeable rise in government deposits.