Central bank vows to keep eye on other nations' easing policies

Amid a wave of interest rate cuts by major economies around the world, Chinese monetary authorities will face a policy dilemma in the coming weeks.

Financial specialists said authorities will have to decide between cutting the interest rate to curb capital inflows from overseas, and tightening the money supply - usually by keeping a relatively high interest rate - to ward off inflation.

Zong Liang, deputy head of the International Finance Research Institute under the Bank of China, said: "While recent figures show that the domestic liquidity condition is too loose, the global situation is making it difficult for the central bank to initiate an interest rate hike."

The People's Bank of China, the central bank, said on Friday that growth of M2, the broad measure of money supply that covers cash in circulation and all deposits, increased by the end of April by 16.1 percent, 0.4 percentage point higher from March.

That was higher than the yearly growth limit of 13 percent for the indicator, which the PBOC had set earlier.

In addition, total social financing, an index that covers all loans, bond issuance and stock sales, stood at 1.75 trillion yuan ($284.6 billion) in April, higher than the market forecast of 1.5 trillion yuan.

"As the reserve requirement ratio for banks is already high, it seems that the PBOC can only turn to open market operations to tighten the money supply," Zong said.

On Thursday, the Bank of Korea lowered its benchmark interest rate by 25 basis points to 2.5 percent, the first cut in seven months. The move came after central banks in Europe, India and Australia all took actions to lower their borrowing costs.

Having cut Europe's interest rate to a record low, policymakers are ready to make further cuts when needed, said Mario Draghi, president of the European Central Bank, early last week.

Monetary easing in those economies all followed the United States policymakers' overwhelming endorsement of the Federal Reserve's plan to keep buying bonds to spur growth and employment, and the Bank of Japan's effort to double its monetary base over the next two years.

The PBOC is vigilant on the policy-based monetary easing in other countries and implications for China, according to its quarterly report on monetary policy released on Thursday.

The central bank report described the issue as one of a potential "major risk" for the Chinese economy, and called for "strengthening effective monitoring of cross-border capital flows".

Lu Zhengwei, chief economist with the Industrial Bank Co Ltd, said he does not believe the PBOC wants a Chinese monetary easing because the monetary policymakers are still using the rhetoric they used during the economy's overheating cycle.

For example, he said, the PBOC still declares it will "keep the overall liquidity in check" to maintain stability of the domestic monetary environment when the country is faced by increasing capital inflows resulted from all the monetary easing programs overseas.

Although the economy witnessed a slowdown in the first quarter, it has seen four straight months of net foreign exchange purchases by the central bank and commercial lenders, which suggest a continuous capital inflow.

The central bank data showed that banks brought in nearly 1.2 trillion yuan worth of foreign exchange in the first quarter on a net basis, a record high in recent years.

A large part of the capital inflow came from dollar-denominated bonds issued by Chinese companies, especially property developers, in the overseas markets, said Ding Zhijie, dean of the School of Banking and Finance of University of International Business and Economics in Beijing.

The rising purchase of foreign exchange by domestic banks will directly multiply the money in circulation, create excessive liquidity, and exert an inflationary pressure, said E Yongjian, an analyst at Bank of Communications Co Ltd.

"Throughout the year we expect such purchases to continue to grow, but the pace of increase may slow down somewhat from the first quarter," he said.

The threat from the inflow may become moderate in the coming few months because of China's slowdown in economic growth and interference from its monetary regulators.

And a possible exit of US quantitative easing would also help soothe the capital flood, said Zhu Haibin, chief China economist at the JPMorgan Chase & Co.

The Wall Street Journal reported on Monday that the US Federal Reserve is getting ready to wind down its $85-billion-a-month bond-buying program in careful steps, but the timing is still uncertain.

Zhu said that it's most likely that Fed will slow down purchasing the bonds and start to exit before the end of this year. "The transform probably will take six to nine months."

For the time being, the PBOC remains on high alert against inflation, as it states in its first quarterly report that it cannot afford to be "blindly optimistic" about the price situation in the next phase. It must fend off the inflationary risks proactively, and stabilize the market's inflationary expectation "in a forward-looking way."

China's consumer price index rebounded to 2.4 percent year-on-year in April from 2.1 percent in March, stronger than expected.

"We expect it to rise further in the coming several months," said Zhang Zhiwei, chief China economist at Nomura Holdings Inc, adding that he expects the authorities to continue to tighten monetary policy in the second quarter, and a slowdown in credit growth as a result.

He added as inflation is edging close to the one-year benchmark deposit rate of 3 percent, it reduces the possibility of an interest rate cut. "A rate cut would also contribute to more speculative pressure in the property market."

The impact of major economies' quantitative easing on China would be less than some people fear, and the nation should continue to deepen its ongoing reforms, especially currency reform, to better cope with the overall global uncertainties, said Fred Hu, chairman of Primavera Capital Group and a former economist at the International Monetary Fund.

By improving the yuan's convertibility for the capital account and increasing the flexibility of its exchange rate, China will free itself from the necessity of injecting money into the market passively whenever the yuan exchange rates rises, he said.

wangxiaotian@chinadaily.com.cn

(China Daily 05/14/2013 page13)