China's Liberation Day monetary policy measures blunted by bank debt pressures
Chinese central bank breaks from precedent with outright reverse repos at the start of the month.
The desired impacts of monetary loosening by China's central bank may have been blunted by the debt pressures of the country's commercial lenders.
On 7 May, the Chinese central bank announced a range of monetary policy measures to help deal with the economic headwinds created by Trump’s Liberation Day tariffs.
Chief amongst them were a 0.5 percent point cut to the required reserve ratio (RRR), as well as a 0.1 percentage point reduction to the central bank's short-term policy rate (the 7-day reverse repo) from 1.5% to 1.4%.
The central bank said it expected the RRR cut to unleash one trillion yuan in long-term funds, and the policy rate reduction to drive a corresponding 0.1 percentage fall in China’s benchmark Loan Prime Rate (LPR).
In spite of this, interest rates in China have since posted an ambivalent performance.
The interbank market has actually seen a rise in rates, with rates on interbank certificates of deposit (CDs) issued by the big state-owned banks breaching the 1.7% threshold at the end of May.
From 3 - 6 June, the weighted average rate of new interbank CD issues was 1.71%, for a rise of one basis point compared to the previous week, yet still easing from the 2 - 3 basis point gains of the preceding two weeks.
During the same week, however, the key DR007 rate (the interbank 7-day pledged reverse repo rate) fell nine basis points.
This ambivalent performance triggered widespread concerns within China over the debt pressures of its commercial lenders, who continue to dominate the country's financial system.
Central bank injects one trillion yuan
Concerns over these pressures may have prompted the Chinese central bank to take the unusual move of announcing outright reverse repo operations at the start of June.
On 5 June, the central bank said it would undertake one trillion yuan in outright reverse repo operations this month starting from 6 June, to maintain sufficient liquidity in the banking system.
Given that 1.2 trillion yuan in outright reverse repos are scheduled to mature in June, the move should result in a net liquidity withdrawal of 200 billion yuan.
Since they were first unveiled in October 2024, the Chinese central bank has undertaken outright reverse repo operations across eight consecutive months.
These operations involve the central bank injecting liquidity into the market by purchasing bonds outright from primary dealers.
Up until June, however, the Chinese central bank had customarily waited until the final trading day of each month to make its official announcement.
The 5 June announcement marks a breach from recent precedent which has raised the eyebrows of domestic analysts.
Interbank CDs set to mature en masse
Domestic analysts say a key issue here is the maturation en masse of the interbank borrowings of Chinese commercial banks in June, threatening to exacerbate their debt pressures.
While China's money and bond markets have remained in a comparatively stable condition, commercial banks are set to see 4.2 trillion yuan in interbank CDs mature this month.
This sum marks an increase of more than 1.7 trillion yuan compared to May, as well as the largest monthly maturation volume in recent years.
"The advance public announcement is a break from precedent, and the goal could be to ease the psychological pressure on the market of a large volume of CDs maturing, to prevent precautionary tightening of funds," said Xiao Jinchuan (肖金川), chief analyst at Huaxi Securities.
Wang Yifeng (王一峰), chief financial sector analyst at Everbright Securities, also says that the motivation is to quell the mood of the market.
"This plays a key role in stabilising market confidence," Wang said.
"The move by the central bank has three key meanings. The first is that it sends a clear message to the market on maintaining the stability of money market prices.
"The second is that if market prices show deviations, there could be further liquidity injections.
"The third is that money market interest rates of less than one year will proceed within a narrow corridor."
Xiao says that quarterly assessments scheduled for the end of June could further ramp up pressure, by prompting banks to step up CD issuance prior to July.
"With the shock of large-scale maturation and concentrated issuance, the key factor will be whether rates for CDs can extend a downward trend," Xiao said.
The liquidity challenges of the banking system could be further compounded by approaching tax payments, which leach China's commercial banks of deposits.
Medium-term lending facilities still in play
Another noteworthy development when it comes to the Chinese central bank's ongoing liquidity adjustments is the continued use of medium-term lending facilities (MLF).
Central bank governor Pan Gongsheng (潘功胜) flagged a reduced role for MLFs last year, as the authority seeks to focus more on the use of short-term policy rates - in particular the rate for its 7-day reverse repo - for monetary policy signalling purposes.
Chinese economists now expect the central bank to continue to make extensive usage of MLFs as liquidity adjustment tools.
"Looking ahead, we expect that both outright reverse repos and MLF will be jointly used as a channel for injecting medium and long-term liquidity, and maintaining rationally ample liquidity," said Ming Ming (明明), chief economist at CITIC Securities.
"Based on experiences in April and May, the central bank could in future use increases to MLFs for injection purposes, to partially replace maturing outright repos," said Xiao Jinchuan.