China: Gradual and Measured Policy Easing Still

Figure 1: Total Non-Financial Sector Debt/GDP Since Q1 2007 (%)

Source: Continuum Economics/BIS 

Chinese officials continues to signal that more policy support is coming, but the guidance still appears to be that this will be gradual. Deputy governor Liu Guoqiang of the PBOC on Friday cautioned against ideas of deflation and encouraged ideas that the authorities are still expecting a lagged benefit from the reopening of the economy. While it is certainly true that H2 will likely see benefit in terms of consumer services, other areas of the economy are below trend and meaning that momentum will slow in H2 2023 (here). Export growth is being hurt by the slowdown in the global economy, while residential investment continues to be a drag as the property developer crisis saps house building and sales (here).

What does appear on the table is a cut in the reserve requirement rate (RRR), which the PBOC briefing cited as a potential policy tool. We still feel that this could come in July or August, as it helps banks ability to lend. Even so, this is likely to be 25bps cut. In terms of policy rates the medium-term lending facility (MTF) was also cited as a potential policy tool. Certainly ultra-low inflation, plus the economic trajectory, would argue for a lowering of interest rates. However, the PBOC has been reluctant to cut the MTF in the same month as the RRR. While a July move is possible, the focus appears to be more on August and/or September to deliver a further 10bps cut. One of the reasons is that the authorities want to avoid hurting the Chinese Yuan too much by widening interest rate differentials still further against the USD.PBOC Liu spoke of a desire for Yuan stability in the half yearly press briefing for example. We do see a further 20bps of MTF cuts being delivered in H1 2024, but this only occurs as inflation takes longer to swing back into positive territory than the PBOC current thinking (here).The PBOC has also talked about a new policy tool, though this is unlikely to be PBOC QE of government bonds due to long running concerns over government financing. 

Meanwhile, other policy stimulus also appears gradual at this juncture. The extension of development finance for residential properties under construction to end 2024 is helpful, but not a game changer and the authorities are only looking at fine tuning in the near-term (e.g. for certain cities that have an inventory overhang). Additionally, some further new fiscal policy easing is likely, given its relative effectiveness. Some ex policymakers (former finance minister Lou Jiwei) have called for up to Yuan 2trn of new fiscal easing, which would be aggressive. However, current policymakers always have one eye on China total debt pile and the risks that too much debt cause a Japan style lost decade as old debt acts as a drag on growth. As we have highlighted China has seen a large increase in government/corporate and household debt/GDP since 2007 (here and Figure 1).This argues more towards a further modest policy stimulation for fiscal policy.

However, it is worth noting that President Xi remains focused on the economy and has been on a charm offensive in recent weeks to encourage foreign investment in China and signal that China is open for business. This could be followed by additional policy steps, which could be the gradual measures outlined above. However, they could also include a step up in policy action. We do not think that the economy is bad enough in 2023 to swing policymakers to more aggressive action however and our central view remains for gradual policy action.