SHANGHAI (Reuters) – China surprised markets by cutting a series of key short- and long-term interest rates on Monday in a bid to boost growth in the world’s second-largest economy.
Analysts said the move showed that the yuan, which has been battered all year by its low yields versus U.S. interest rates, was less of a priority than growth.
Why is this important?
The weakening yuan has been a constraint on the People’s Bank of China’s monetary easing efforts, and investors had widely expected the PBOC to wait until the US Federal Reserve starts cutting interest rates to avoid widening the yield gap and further pressure on consumption.
Analysts said some of the initial declines in the yuan on Monday were an emotional reaction, and further weakness would be handled carefully.
The interest rate cuts were part of a pro-growth policy following weaker-than-expected economic data in the second quarter of last year, and reflected a call from the plenum to achieve a growth target of “around 5%” for this year.
In numbers
China cut the seven-day reverse repo rate, the one-year loan prime rate, the five-year loan prime rate, and the cost of the existing lending facility by 10 basis points each.
The yuan has lost 2.4% against the dollar since the start of the year, and was last traded at 7.2734.
Yields on 10-year U.S. Treasuries were about 200 basis points higher than benchmark 10-year Chinese government bonds.
Context
The yuan has faced headwinds such as widening yield spreads with other major economies, concerns about weak growth and escalating trade tensions since late last year.
The Chinese currency is only allowed to move within a narrow 2% range around a daily midpoint set by the People’s Bank of China, and markets take this guidance as an official signal of the foreign exchange position.
The People’s Bank of China is also carefully managing monetary conditions, having gradually increased the volume of banknotes it sells in Hong Kong since August 2023.
Key Quotes
“The measures should aim to meet the government’s 5% growth target this year,” said Volkmar Bauer, FX strategist at Commerzbank. “The market will be able to ignore more negative scenarios of slower growth more clearly, which should help the yuan.”
“Forex containment will become a smaller constraint – and we see little incentive for China to let the yuan appreciate, regardless of the market direction,” says Becky Liu, head of China macroeconomic strategy at Standard Chartered.
“Their efforts to defend the currency are primarily aimed at preventing an uncontrolled decline in its value, not at trying to engineer appreciation.”
Schedule
Analysts expect the yuan to end the year at 7.29 per dollar, about 0.23 percent below the current level, according to seven forecasts compiled by Reuters.
Investment Q3 2024 End of 2024 Q1 2025 Q2 2025
Homes
RBC Capital 7.31 7.33 7.35 7.32
Markets
Company 7.4 7.45 7.3 7.2
general
DBS 7.21
Commerzbank 7.3 7.25 7.25 7.2
SEP 7.1
Goldman Sachs 7.35 (3 months 7.4 7.4)
Horizon)
ING 7.26