Oct 02, 2017 06:33 PM

China’s Targeted Reserve Ratio Cut Aimed at Boosting Lending, not Liquidity, Analysts Say

The People’s Bank of China (pictured) said it will lower the reserve requirement ratio by 0.5 percentage points for banks whose “inclusive finance” loans amount to 1.5% of their total lending this year. Photo: IC
The People’s Bank of China (pictured) said it will lower the reserve requirement ratio by 0.5 percentage points for banks whose “inclusive finance” loans amount to 1.5% of their total lending this year. Photo: IC

The central bank’s decision to cut the amount of cash some banks must hold in reserve beginning next year is aimed at encouraging lending to sectors where access to loans is restricted, rather than boosting liquidity across the board, analysts say.

The People’s Bank of China (PBOC) said on Saturday it will lower the reserve requirement ratio (RRR) by 0.5 percentage points for banks whose “inclusive finance” loans reach 1.5% of their new lending in 2017.

The PBOC defined “inclusive finance” loans as lending to small and micro companies that each have a credit line of less than 5 million yuan ($751,000), as well as agriculture businesses, startups, impoverished people and students. Commercial banks whose outstanding loans to these sectors account for at least 1.5% of their total outstanding loans at the end of this year are also eligible for the preferential rate.

The RRR will be reduced by 1.5 percentage points if “inclusive finance” loans of targeted banks exceed 10% of new lending this year, or if they make up 10% of total outstanding loans at the end of 2017.

Rural commercial banks whose local lending makes up a certain proportion of their total new loans will enjoy a 1 percentage point cut, the PBOC said.

The slash will benefit all large and midsize national banks, 90% of urban commercial lenders focusing on local loans, and 95% of rural banks, an unnamed central bank official said in a statement on Saturday.

The policy “will help encourage the banks to earmark more of their credit resources for inclusive finance in a sustainable way,” the official said.

Inclusive finance

The central bank’s announcement came amid growing calls for an RRR cut, as China’s campaign to curb financial risks and rein in leverage have led to a squeeze on the amount of cash flowing through the financial system and have pushed up interest rates in the interbank market, where banks borrow from each other.

The year-on-year expansion in M2, China’s broadest measurement of the money supply, has decelerated significantly due to a drop in the growth rate of money held by the financial sector. It fell to 8.9% in August, its weakest pace on record, PBOC figures showed.

Zhou Hao, an economist with Commerzbank AG in Singapore, believes that the PBOC’s move was targeting support for “inclusive finance,” instead of unleashing liquidity.

By preventing the RRR cut from taking effective for three months, the central bank is signaling that it does not plan to impose similar policies in the short term unless a serious financial crisis emerges, he added.

“The market will have to depend on itself to adjust to the tight credit situation. The central bank is unlikely to provide further guidance,” he said.

The central bank’s announcement came after the State Council, China’s cabinet, said the government would offer preferential reserve requirement ratios and re-lending support to some banks.

With almost 600 million of China’s 1.4 billion population still classified as living in rural areas, the government has stressed the need to develop “inclusive finance,” an initiative backed by the United Nations that calls for universal access at a reasonable cost to financial services including savings, payments, credit and insurance provided by sound institutions.

In December 2015, the State Council issued a five-year plan to promote “inclusive finance,” including a policy to develop rural micro-credit organizations and provide impoverished rural residents with financial services.

Economists with investment bank China International Capital Corp. Ltd. (CICC) also said that although the PBOC’s announcement will help improve market expectations for the money supply and Chinese banks’ profitability, the move “does not seem (intended) to relieve pressure on liquidity in the short term.”

“The rather long delay in the implementation showed that this time’s RRR reduction does not aim to increase liquidity in the short term despite tight liquidity at the end of the third quarter,” they said in a note on Sunday.

The CICC economists estimated that the RRR reduction will free up as much as 1 trillion yuan in funding.

A lower RRR will boost bank’s profitability because given the low deposit rates, the reserves “can actually be interpreted as a hidden tax burden,” they said.

But even though further monetary loosening is unlikely any time soon, the central bank does have room to reduce the benchmark RRR over the medium term. The benchmark rate currently stands at 17%, they said. The analysts believe the reasonable level is 10%.

China last cut the reserve ratio for qualified banks in February, when lenders whose 2016 loans to the agricultural sector or to small and micro businesses accounted for more than 15% of their annual loans became eligible for a 0.5 percentage point reduction in their RRR.

Contact reporter Fran Wang (

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