Asia Policy Watch: Another 50-bp RRR hike by the People’s Bank of China
The People’s Bank of China (PBOC) announced today that the reserve requirement ratio (RRR) will be raised by 50 bp, to be effective June 20. After this hike, the official RRR for large banks will be 21.5% and 19.5% for small and medium banks. However, given the usage of the Dynamic Differentiated RRR, the actual RRR varies for different banks.
We reiterate our view that the RRR is increasingly used as a regular liquidity management tool, to a large extent in replacement of central bank bill issuance, because it tends to be 1) more proactive [because it is a government order as supposed to a negotiation in the case of bill issuance]; 2) the high profile in terms of its signaling effect; and 3) cheaper [the required reserve interest is 1.62%, significantly lower than the 3%+ bill rate]. As a result, the RRR hike itself does not necessarily imply a net tightening of monetary policy, just as an issuance of PBOC bills itself does not necessarily imply a net tightening if the amount of expiring bills and FX inflows are equally large or even larger. We do not know for sure if it has been a net injection as the PBOC does not release FX position data on a real time basis. But judging from the rise in interbank rate in recent days there probably has been a net tightening.
The exact timing of the hike relatively early on a Tuesday afternoon is probably meant to be a signal to the market after the release of May inflation and activity growth data that the central bank is not in a hurry to loosen policy amid elevated yoy CPI inflation (5.5%) despite the relatively low level of industrial activity growth.
We continued to expect repeated RRR hikes going forward as it has been over the past half year. As we estimate the excess reserve ratio is still above 1%, the hike is not directly binding and the burden of net monetary tightening will still mostly fall on window guidance (explicitly or implicitly via the Dynamic Differentiated RRR). In the meantime, we expect the PBOC to allow currency appreciation (6% on an annual basis) to continue and hike benchmark interest rates (1 more hike of 25 bp in the rest of 2011, likely before the end of July).