By Anthony Harrington
On 22 November last year, China completely reversed its policy on credit. Where it had been steadily raising bank reserves to soak up excess liquidity and dampen down a credit bubble that was reaching dangerous levels, suddenly in November it lowered the official level for bank reserves.
The rationale behind this was largely to head off the slowdown in exports resulting from diminished orders from Europe and a weakening economic environment in the US. The slowdown showed little signs of improvement, however, and market experts were expecting China to step in with a further credit easing in January. That didn’t happen, but on 16 February circumstances, namely the looming probability of a fifth quarter of diminishing growth, seemed to have pushed the People’s Bank of China to a further easing of reserve levels. It cut reserve requirements from 21% to 20.5%, a 50 basis point reduction.
Although this doesn’t sound huge, according to Reuters, the cut in reserve requirements threw the equivalent of some $60 billion into the economy by boosting bank lending capacity. It’s impact on the markets is likely to be very positive, according to Reuters:
The cut, announced late evening, is set to boost the confidence of domestic stock investors, who have been eagerly awaiting clear signs of an easing of monetary policy.
However, while the easing of bank reserve requirements may well cause a flurry of excitement in equity markets, this is not something the Chinese Government particularly wanted to do. Inflation is still running above 4%, which means that Chinese Government one-year bonds, which have a coupon of 3.5%, are actually yielding negative returns. Loosening credit is not exactly going to help dampen inflation, but inflation at 4% or even at 5% is not going to be an immediate threat.
The far greater threat, as far as China is concerned, is posed by the possibility of GDP growth in China sliding below 8%. This is the level that is widely accepted as the minimum growth China requires in order to provide jobs for new entrants to the economy. A point or two below this, and some commentators are already forecasting growth slipping to 7.9% or lower.
Reuters points out that China’s GDP “adds more each year to net global growth than any other nation.” So a slowdown in China to around 7% GDP growth or even sub-7% would have a serious impact on global growth, quite apart from the instability that it would cause in China itself.
Reuters cites the reassurance offered by Xi Jinpen, widely seen as China’s leader-in-waiting and the man most likely to replace Chinese President Hu Jintau when his period in office ends in a year’s time. According to Xi Jinpen, “There will be no hard landing” for China. However, that is a lot easier to say than it is to prevent. As Reuters notes, in its fourth-quarter monetary policy report, the PBOC said it had selectively cut the Reserve Requirement Rate for some banks (as opposed to making a general cut for all banks) through the end of 2012 and that it would do so again if necessary.
However, the country is still dealing with the consequences of the runaway lending boom that followed its massive 4 trillion yuan cash injection into the economy after the 2008 crash, so the PBOC is between a rock and a hard place on this. It doesn’t want lending or inflation getting out of control, but it most assuredly does not want to see growth sinking to 7% and below.