The Chinese central bank has highlighted a sizeable decline in the required reserve ratio (RRR) of financial institutions over the past two years since the launch of a string of cuts.
The People’s Bank of China (PBOC) recently announced that as of 15 May the average statutory deposit reserve ratio for financial institutions in China was 9.4%, for a decline of 5.4 percentage points compared to the start of 2018.
PBOC has implemented 12 reserve ratio cuts since 2018, releasing a total of 8 trillion yuan in long-term funds by its own estimate.
This included four cuts in 2018 that released 3.65 trillion yuan, and five cuts in 2019 that released 2.7 trillion yuan in funds.
From the start of 2020 until May PBOC has implemented three more cuts, releasing a further 1.75 trillion yuan in funds.
PBOC said to state media that reserve ratio cuts serve to shrink the central bank’s balance sheet, but do not lead to a contraction in the money supply, and instead increase the effectiveness of monetary expansion.
This is the exact opposite of the contraction of money that the Federal Reserve and other central banks of developed countries achieve when they shrink balance sheets by reducing bond holdings.
The main reason for this is that reductions in the statutory deposit reserve ratio mean a reduction in the money of commercial banks lawfully locked down by the central bank, and a corresponding increase in the money that they can freely use, thus raising money creation capability.
The implementation of reserve reduction policies satisfies the liquidity demand of the banking system at special times, expands the vigour of support for micro, small and medium-sized enterprises, and reduces social financing costs.