Reserve Ratio Cut in Line with China’s Deleveraging Drive

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The Chinese central bank’s recent decision to reduce the reserve requirement ratio may not be at odds with its ongoing deleveraging campaign, as it incentivises lending to private enterprise.

The People’s Bank of China has just cut its reserve requirement ratio by half a percent to 1.5% for Chinese lenders that satisfy certain conditions.

Some observers contend that the decision is contrary to the central government’s much-vaunted deleveraging campaign, and is a move intended to prop up growth by ┬ápumping more liquidity into the Chinese economy.

David Millhouse, Head of China Research, Forsyth Barr Asia, argues that move is in line with Beijing’s deleveraging ambitions and could in fact serve to shore up economic efficiency, as the cut only applies to banks under certain circumstances

Writing for Bloomberg Millhouse points out that in order to qualify for the reduced reserve requirement ratio Chinese banks must provide a certain percentage of their loans to small- and medium-sized enterprises.

According to Millhouse this will incentivise the banks to channel more funds to SME’s, as opposed to the large-scale state-owned enterprises that have traditionally dominated lending by the sector, and account for a disproportionate share of China’s burgeoning debt pile.

The International Monetary Fund issued the warning last year that this lending imbalance is acting as a drag on China’s economic efficiency.

Millhouse cites statements from Beijing indicating that SOE’s receive over 50% of bank lending, yet account for under 20% of economic output, while SME’s and micro enterprises receive less than 40% of loans, yet account for 65% of China’s gross domestic product, as well as 75% of employment and 50% of tax revenue.

Concerns about the heavy debt burden of SOE’s has just prompted the State Assets Supervision and Administration Commission to limit borrowing by those government-owned industrial concerns that have debt-asset ratios over 70%.

PBOC has sought to reassure markets that the reserve ratio cut does not signal any change in China’s monetary policy, which will maintain the prudent and neutral stance outlined by the quarterly policy report.

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