China is slowing and monetary stimulus is back on the menu. Dismal manufacturing indicators have led to talk that banks may have their lending capacity relaxed, encouraging them to help juice up the economy. But, this time Beijing’s big bazooka is likely to pack less of a punch.
Banks currently have to keep up to 21.5 per cent of their deposits in the central banks’ vaults — a figure cranked up nine times since mid-2010 to help fight inflation. If Beijing wants monetary loosening, it will probably start there. A one per cent cut in required reserves would unlock around 770 billion yuan of lending capacity. Those new loans would create more deposits with other banks, which, in turn, could extend more credit. All in all, the total new lending could near four trillion yuan — as much as the headline figure for 2009’s giant stimulus.
Yet, returns on new lending aren’t what they were. Five yuan of investment creates just one of GDP growth, according to the IMF. By that measure, a four-trillion yuan stimulus might boost GDP in 2012 by less than two per cent.
A bigger question is who will borrow. Small businesses crave credit and provide growth and employment, but banks prefer to lend to large, state-backed firms. A higher interest rate should compensate for greater risk, but, in China, a cap on deposits and a floor on loan rates, with a two per cent gap in between, means banks can be profitable even when they are risk-averse.
Even those previously favoured by banks may not want to take on more debt. Say, of the 54 trillion of loans now outstanding, 80 per cent are still safe credits. A new four-trillion credit expansion would be equivalent to half of those borrowers increasing their debt load by 20 per cent. That’s a tough sell in a slowing market.
What China needs isn’t to lend more, but more wisely. Diverting credit to smaller companies is a must. If banks won’t lend, Beijing could guarantee small business borrowing. Better yet, uncap deposit rates, so banks must price loans rationally to make money. The monetary bazooka can work, but only if fired in the right direction.
