Enterprise Borrowing Costs Set to Decline amidst China’s Ongoing Interest Rate Reforms

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Domestic analysts expect the medium and long-term borrowing costs of Chinese enterprises to fall in the wake of ongoing market reforms of China’s interest rate regime.

China’s Market Interest Rate Pricing Self-Disciplinary Mechanism (市场利率定价自律机制) made adjustments to its method for determining the ceiling on deposit interest rates on 21 June, shifting from the use of a fixed multiple of the deposit benchmark rate to the use of the deposit benchmark rate plus a set number of basis points.

The change comes after China’s “Government Work Report” (政府工作报告) for 2021 called for “optimising deposit interest rate regulation, driving further declines in the real interest rates for loans, and further guiding the financial system to transfer profits to the real economy.”

“This year it is necessary to make it more convenient for micro and small-enterprises to obtain financing, and reduce overall financing costs amidst stability,” said the Work Report.

Domestic analysts say that ongoing reforms of China’s interest rate regime are needed to reduce borrowing costs for small businesses in the country, given the trend of narrowing interest rate spreads.

“In the first quarter of this year, the net interest rate spreads of commercial banks continued to fall to 2.07%, with small and medium-sized banks coming under especially sizeable pressure,” said Zhang You (张瑜), chief macro-analyst with Huachuang Securities, to state-owned media.

“The pressure on the net interest rate spreads of commercial banks have already impeded further declines in interest rates for loans.

“Pushing for reform of the ceiling on pricing by the deposit interest rate self-disciplinary mechanism on this occasion will help to ease cost pressure for bank liabilities, and drive banks to further transfer profits to the real economy.”

“Adjustment to the ceiling for deposit interest rates can spur declines in bank liability costs, thus providing room for declines in interest rates for loans,” said Ming Ming (明明), senior researcher from CITIC Securities.

“Additionally, the recent implementation of regulations on cash management-category wealth management products will lead to declines in the yields on those products…this can be seen as a ‘combination blow’ for adjustments to the liabilities costs of banks.”

Dong Qi (董琦), chief macro-analyst with Guotai Junan Securities, said that the reforms will help to crack down on smaller banks competing for deposit funds via the provision of unreasonably high interest rates, as well as “shrink the interest rate differential between maturities and ease leverage effects, but not to the point that this causes excessive deposit outflows.”

Dong also says that the adoption of the “benchmark rate + basis points” model for determining the interest rate will permit more targeted adjustments of rates and ease their broader impact upon the market.

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