THE People’s Bank of China (PBOC), China’s central bank, issued 151 billion yuan (S$30.6 billion) of directional bills to selected commercial banks last week. Unlike the ordinary central bank bills distributed in the open market, PBOC made it compulsory for the commercial banks to purchase its tranche of directional bills.
This is the fifth time the central bank has wielded such a tool to restrain domestic banks from expanding credit too fast. While the term remains the same, the size of the current bill issuance is bigger than the previous four batches of 101 billion yuan.
Moreover, while the yields of the previous four batches of directional bills were only two to six basis points lower than normal central bank bills, the spread between the yield of the new batch and that of the ordinary ones widened to 10 basis points.
The issuance of directional bills came only one day after PBOC announced an increase in bank reserve ratio of 0.5 percentage points to 12.5 per cent, effective from Sept 25. It is the seventh time the central bank has increased the bank reserve ratio this year.
Contrary to general expectation, China’s economy didn’t slow in 2007. Instead, China’s economy has been accelerating despite a series of macro economic control measures.
In the first half of 2007, China’s GDP grew by 11.5 per cent, 0.6 percentage points higher than the same period in 2006. In particular, the investment growth remains at an uncomfortably high level.
In the first seven months, fixed asset investment in urban China grew by 26.6 per cent, which is partly driven by excess liquidity.
According to the central bank, M2, the broad measure of money supply, went up 18.48 per cent by the end of July 2007, over the same period last year. The growth rate is 1.42 percentage points higher than that of the end of June, indicating acceleration in money supply.
Currently, directional bills, bank reserve ratio requirements and interest rates are the three major instruments the PBOC uses to adjust liquidity in China’s financial market.
So far, PBOC has increased the interest rate four times within this year. Therefore the question we are left with is whether PBOC will increase the interest rate again this month after last week’s tightening move.
Usually, the decision of an interest rate hike is made at a weekend after major economic statistics, such as the consumer price index (CPI) and fixed asset investment in urban areas, are released by the National Statistics Bureau (NSB). According to the data release schedule, the next possible interest rate hike may be announced on Sept 14.
It does seem that the forthcoming August figure would trigger a new interest hike. It is widely expected August CPI will go beyond 6 per cent, provided food prices, the major drive for a high CPI rate, continue to pick up. The July figure hit a 33-month high to reach 5.6 per cent.
However, from a macroeconomic point of view, we reckon that even if a high CPI rate comes together with a high fixed asset investment figure, PBOC might not be in a rush for a new interest rate hike this month.
First of all, the high CPI rate might not be a bad thing in China. In fact, the CPI figure in July was less than one per cent, if food prices, which account for about one-third in the price basket, is excluded.
The food price surge will eventually benefit the farmers and help the country to narrow the widening income gap between the urban population and the rural one.
In the first half of 2007, net income of farmers grew by 13.3 per cent, which is a 20-year high.
Additionally, it is a common practice that Chinese banks extend loans much faster in the first half of one year.
Thus PBOC is under less pressure to control bank credit expansion in the second half.
Therefore, the current stronger-than-usual directional bill measure, together with a new bank reserve ratio hike, might allow PBOC more time to see the result of its actions.
Tiger Tong is an analyst with China Knowledge, a premier provider of trade and investment information on China
Source: Business Times 12 Sept 07
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