China: RRR cut signals PBoC still supportive


PBoC will lower RRR for mid- and small-sized banks, effective May 15. Broad-based easing cannot be ruled out if trade tensions escalate further. Expect CNY to depreciate as investors turn risk averse.
Nathan Chow, Philip Wee06 May 2019
  • PBoC would lower the required reserve ratio for around 1000 rural banks to 8%, effective May 15
  • We expect the PBoC to inject more long-term liquidity via targeted tools…
  • …Broad-based easing cannot be ruled out if trade tensions escalate further
  • Implication for our forecast: A prematurely normalise policy will chok the growth momentum
  • Implication for investors: The risk of more US tariffs could lift USD/CNY above 7 and towards 8
Photo credit: AFP Photo


China: RRR cut signals PBoC still supportive

The People’s Bank of China (PBoC) will lower reserve requirement ratio (RRR) for mid- and small-sized banks, effective May 15. Banks with assets lower than RMB 10bn will be subject to RRR of 8%. About 1,000 small banks will benefit from the cut that will release RMB 280bn to the banking sector.


Source: CEIC, DBS

The latest policy move is in line with our expectation. While the better-than-expected 1Q GDP may offer some comfort, data volatility resulting from the Lunar New Year holidays has created considerable uncertainty about the underlying strength. Premature policy normalisation could risk choking off growth momentum.

Data released last week has indeed showed that stabilisation in China’s economy is not assured. The National Bureau of Statistics (NBS) PMI came in lower than expected in April (see “China: Economy still fragile despite stabilisation policies”; April 30). Both small- and medium-sized firms have remained in the contractionary territory for 6-8 months (Chart 1). Industrial profits also declined in 1Q, while private investment slowed further in the first quarter despite accelerating headline FAI growth (Chart 2).



Source: CEIC, DBS

Arguably, the unusual timing of the announcement may be part of the response to the latest US tariff threat. On Sunday, US President Donald Trump threatened to hike the tariffs on USD 200bn of Chinese goods to 25% from 10%, effective Friday. He also floated the possibility of extending a new 25% duty on another USD 325bn imports that are not currently covered. Based on our estimation, 25% tariffs on USD 200bn Chinese exports would add up to about a 1.0 percentage-point drag on GDP growth this year. Tariffs on all of China’s exports to the US would increase the impact to about 1.5 ppt. Adding to the pressure is the faltering momentum amongst China’s top export destinations. Global trade volumes fell in February, marking the fourth drop in six months. Aside from the seasonal spike last month, shipments to the US and the rest of the world have decelerated sharply since late last year (Chart 3).



Source: CEIC, DBS


We expect the latest RRR cut to push down the 7-day repo rate, which has increased 24bps since early April, and subsequently feed through to a further fall in average lending rates. Looking forward, PBoC will likely retain supportive stance, injecting more long-term liquidity via targeted tools such as targeted RRR cuts and TMLF. Broad-based easing cannot be ruled out if trade tensions escalate further.

CNY to depreciate past 7 vs USD if trade talks fail

Last December, we devised a simple model to estimate the impact on the Chinese yuan in the event that US-China trade talks fail (see “Effective link between tariffs and CNY”; December 13, 2018). Our back-of-the-envelope calculations showed that if the US increased tariffs to 25% from 10% on USD 200bn of China’s goods, USD/CNY could rise to 7.30. A full-blown trade war which entails a 25% US tariff on the rest of China’s goods could propel USD/CNY to 8. Needless to say, there would be a negative spill-over into other Emerging Asian currencies.

We have held our forecast for USD/CNY to trade towards 7 later this year. The US economy has held up better than its Chinese counterpart to the tariff war that started in 2H18. US growth expanded at/above 3% YoY for the third straight quarter in 1Q19 and eroded the dovish tilt in the Fed’s pause stance. China’s growth has stabilised at the same 6.4% rate as of 1Q19, thanks to fiscal and monetary policy stimulus to cushion its growth from supply-side pressures. After the one-off yuan devaluation in August 2015, USD/CNY has opened or ended each year either around 6.50 or 7.00. China probably favours a stable exchange rate premised on a current account balance around 0% of GDP, a slower but more sustainable 6-6.5% growth target this year, and a return to deleveraging when conditions allow.


To read the full report, click here to Download the PDF.


Nathan Chow

Strategist - China & Hong Kong
nathanchow@dbs.com



Philip Wee

FX Strategist - G3 & Asia
philipwee@dbs.com



The information herein is published by DBS Bank Ltd and PT Bank DBS Indonesia (collectively, the “DBS Group”). It is based on information obtained from sources believed to be reliable, but the Group does not make any representation or warranty, express or implied, as to its accuracy, completeness, timeliness or correctness for any particular purpose. Opinions expressed are subject to change without notice. Any recommendation contained herein does not have regard to the specific investment objectives, financial situation & the particular needs of any specific addressee. The information herein is published for the information of addressees only & is not to be taken in substitution for the exercise of judgement by addressees, who should obtain separate legal or financial advice. The Group, or any of its related companies or any individuals connected with the group accepts no liability for any direct, special, indirect, consequential, incidental damages or any other loss or damages of any kind arising from any use of the information herein (including any error, omission or misstatement herein, negligent or otherwise) or further communication thereof, even if the Group or any other person has been advised of the possibility thereof. The information herein is not to be construed as an offer or a solicitation of an offer to buy or sell any securities, futures, options or other financial instruments or to provide any investment advice or services. The Group & its associates, their directors, officers and/or employees may have positions or other interests in, & may effect transactions in securities mentioned herein & may also perform or seek to perform broking, investment banking & other banking or finan­cial services for these companies. The information herein is not intended for distribution to, or use by, any person or entity in any jurisdiction or country where such distribution or use would be contrary to law or regulation. Sources for all charts & tables are CEIC & Bloomberg unless otherwise specified.

DBS Bank Ltd., 12 Marina Blvd, Marina Bay Financial Center Tower 3, Singapore 018982. Tel: 65-6878-8888. Company Registration No. 196800306E.

PT Bank DBS Indonesia, DBS Bank Tower, 33rd floor, Ciputra World 1, Jalan Prof. Dr. Satrio Kav 3-5, Jakarta, 12940, Indonesia. Tel: 62-21-2988-4000. Company Registration No. 09.03.1.64.96422.