China's Cabinet hints at cutting the reserve ratio to aid economy

China made a surprise shift Wednesday by signaling the economy needs additional central bank support, a warning for the rest of the world about how circuitous the exit route from the Covid-19 pandemic is proving to be.

The State Council, China’s equivalent of a cabinet, hinted the People’s Bank of China could make more liquidity available to banks to boost lending. It’s a move that puts the PBoC at odds with the US Federal Reserve’s discussions around tapering its bond-buying program, suggesting that monetary policy in the world’s two biggest economies could be headed in opposite directions again.

Economists pinned China’s pivot on emerging signs that a robust recovery is starting to cool as commodity prices soar, consumers remain cautious and global supply-chain problems hit businesses. Sporadic restrictions to contain virus outbreaks continue to hamper sentiment.​

The State Council suggested the PBoC could cut the amount of money banks must keep in reserve — the so-called reserve ratio requirement, or RRR. While the shift in tone doesn’t mean the restart of broad-based easing in China, it’s an about-turn for a central bank that had been tapering its support as growth accelerated.

“As central banks the world over tip-toe toward the pandemic policy exit, they will do well to heed the experience of the PBoC,” said Frederic Neumann, co-head of Asian economics research at HSBC Holdings. “Better proceed with caution in withdrawing policy support while the economy gets back on its feet.”

China’s bonds rally on signs of policy easing

China’s government bonds rallied, sending the benchmark 10-year yield to the lowest level since August, after the government indicated that the central bank could loosen its policy to support the economy.

The yield on the most acti­vely traded 10-year sovereign notes tumbled seven basis points to 2.99 per cent, while futures contracts of the same tenor jumped by the most in over a year. A gauge of trader expectations for borrowing costs in the future slid to the lowest level since January.

The move came after the State Council hinted that the People’s Bank of China could make more cash available to banks in order to boost lend­ing to businesses, including by cutting the amount of money they have to hold in reserve. A potential easing could provide the bond market with much-needed liquidity to absorb the flood of local government debt sales as a swathe of policy loans mature in the second half of the year.