Another “not-so-targeted” 100bp RRR cut, partially to replace MLF injection
The PBoC announced another “not-so-targeted” 100bp RRR cut, effective on April 25. The central bank of China announced on its website after market close today (April 17 2018), that it will lower the reserve requirement ratio (RRR) for “qualified” financial institutions that are now subjective to higher RRR rates, effective on April 25 2018. The beneficiary banks include large state-owned banks, share-holding banks, urban commercial banks, foreign banks, as well as above-county-level commercial bank – i.e. most of the deposit-taking banks. This is the third time the central bank had tinkered with the RRR since September last year, which includes the targeted RRR cut announced on September 30 2017 and the Contingent RRR Arrangement (CRA) over the Lunar New Year of 2018. In a statement following the announcement, the central bank revealed that the total amount of liquidity released from this RRR cut will likely amount to Rmb 1.3 trillion, close to the amount from a full 100bp RRR cut (which would be est. at 1.47 trillion).
According to the central bank statement, the bulk of the liquidity released from RRR (Rmb 900bn) is to replace some of the MLF as they mature, leaving the net injection amount at around Rmb 400bn. The central bank detailed on its website the split of the liquidity release between “replacing MLF” and the amount as “net/additional injection”. Furthermore, the PBoC explained that the bulk of the “net injection” will be targeted at the urban commercial banks and the above-county-level rural commercial banks, which may be helpful for the “loan structural adjustment” towards SME and agricultural sectors. It is clear that this RRR cut is not set out to replace all of the MLF outstanding, which amounts to Rmb 4.9 trillion.
Although not an entirely “straight-forward” or “full” RRR cut, it will likely ease the market concerns of over-tightening of financial conditions in the near term. Financial conditions tightened notably last month – M2 growth dipped to 8.2% YoY, M1 growth slumped to 7.1% YoY, reported TSF also declined to 10.5% YoY, way below PBoC’s target of 12% for both M2 and reported TSF growth set for last year. Our calculation suggest that the adjusted TSF growth (TSF +central and local government bond outstanding) slowed sharply to 5% MoM annualized in March from ~13% MoM annualized in February, pointing to notable financial condition tightening. RRR cut helps lift the money multiplier and boost money supply growth. The timely RRR adjustment may help ease market concerns over the contractionary effect from regulatory tightening over non-standard-asset credit issuance and local government investment activities.
From a longer-term perspective, lower RRR and slower growth of central bank relending or the base money is a welcomed structural development. Although there have been numerous “targeted” RRR cuts since 2016, the official RRR rate remains at 17%, notably higher than all the other major economy. We reiterate our long term view that Chinese banks required reserve ratio will likely “normalize” and settle at a lower level, since the elevated official RRR has increased the opportunity cost for banks and incentivize them for “regulatory arbitrage”. Lower RRR is in line with the long term goal of financial deleveraging, as it reduces the incentive for the banks to resort to shadow-banking activities. Furthermore, replacing central bank relending with RRR cut is also a welcomed structural “re-balancing”, as it reduces the cost of keeping a large stock (Rmb 8.4 trillion) of relending instruments and carrying out daily open market operations (OMO). Over the long term, the relative size of China’s base money have room to decline further, as it is still proportionally larger (vs. GDP) compared with other major economies (except Japan).