When a bank obtains money on more favorable terms, does the advantage also reach those who ask for a loan? This is the question that accompanies today’s Chinese news, November 2: the People’s Bank of China, the PBoC, is launching a new system to regulate very short-term financing.
The day’s operation is worth 541 billion yuan, with overnight expiration, i.e. the following day, at an annual rate of 1.25%. From this week the tool is used every working day and takes on a central role in guiding rates.
The significance of the news goes beyond the figure. Beijing is changing the way its decisions reach the banks and, through them, the economy. For Europe it is important to understand whether this step will be able to support credit and demand.
What changes in bank financing
The operations are called reverse repos: the central bank temporarily provides money to intermediaries by receiving securities, with an agreement that provides for the reverse operation at maturity.
They serve to regulate the liquidity available in the financial system and to guide the cost of shorter financing.
The reform provides for daily overnight operations at a fixed rate. The seven-day ones remain available, especially during tax deadlines and the end of the month, but they switch to a mechanism with pre-established quantities and rates determined by the offers.
The difference concerns the reference used to guide the money market: one-day financing acquires greater centrality.
Because 541 billion is not all additional money
The 541 billion yuan represents the gross amount of the new operation.
On the same day, previous loans of 1,056 billion yuan expired. The balance of the operations considered is, therefore, a net withdrawal of 515 billion, according to the findings of the Chinese financial press and the public broadcaster RTHK.
| Operations of November 2nd | Billions of yuan |
|---|---|
| New overnight financing | 541 |
| Previous loans expiring | 1,056 |
| Net liquidity balance | −515 |
This data prevents us from describing the day as a simple “rain of money”. At the same time, an isolated negative balance is not enough to demonstrate a monetary tightening: it must be read together with the needs of the banking system and other operations.
Is it a rate cut?
It is not a normal cut of the reference rate itself. The 1.25% overnight rate is lower than the previous seven-day benchmark’s 1.40%, but is for a different duration.
The interest rate cannot be separated from the characteristics of the loan. Furthermore, overnight operations at 1.25% had already been reported in June: the novelty is, above all, their daily use and the role assumed in the system.
Analysts differ on the consequences. Some see more favorable conditions for intermediaries; others interpret the move as a technical adjustment and do not expect it to automatically lead to a cut in key lending rates in November.
When the benefit can reach businesses
A bank that can better manage its liquidity needs may find itself in more favorable conditions to finance customers. The transfer, however, is not automatic.
The price of a loan also includes the risk that the debtor does not repay the money, the bank’s costs and the capital necessary to support the operation. We also need someone willing to ask for credit: if a company fears not selling, a less expensive loan may not convince it to invest.
To evaluate the reform it will therefore be necessary to observe the actual conditions of the new loans and the demand for financing. The availability of money is a passage; its transformation into investments is the next one.
Because it also affects Italy and Europe
For an Italian manufacturer selling machinery in China, the connection can be concrete: customers capable and willing to finance new plants can generate orders. It is a possible economic channel, not a result already attributable to the decision.
There is also the competition side. More accessible financing can support Chinese companies operating in the same markets as European companies.
For savers, the exposure passes instead to funds and other investments that contain Chinese assets. What matters are prices, bond yields and the exchange rate between currencies. The reform alone does not allow us to predict either the direction of the yuan or that of the stock markets.
The criterion for interpreting Beijing’s move is, therefore, simple: follow the money to those who should use it. The change will become relevant for the real economy if it helps finance sustainable activities, purchasing and production. It is there that an apparently distant decision can meet European orders and investments.
