May 31, 2019 / 10:18 AM / 18 days ago

China central bank may open taps with cash shortfall looming

SHANGHAI (Reuters) - China’s central bank splashed more cash into the banking system this week than at any time in the past four months, but fresh signs of economic weakness and a worsening trade war may raise the chance it will deploy bolder stimulus.

The People’s Bank of China (PBOC) injected a net 430 billion yuan ($62.3 billion) this week via reverse bond repurchase agreements, the biggest weekly fund dump since mid-January ahead of the Lunar New Year holiday, a time when the central bank traditionally boosts liquidity to meet higher cash demand.

Market participants interpreted the liquidity boost as an attempt to calm investors after the government seized control of a troubled regional bank, which increased interbank financing costs and sparked worries about the broader economy.

But rising economic pressures from a protracted trade war along with a likely huge liquidity shortfall due to maturing loans in coming months require more long-term funds, even if higher liquidity puts the already weakening yuan in jeopardy.

“It’s possible for us to see a comprehensive reserve requirement ratio (RRR) cut in June. But regarding more aggressive easing measures, we need to wait for the July Politburo meeting for policy tone to turn dovish,” said Larry Hu, chief China economist at Macquarie in Hong Kong, referring to the ruling Communist Party’s elite policy-setting body.

The central bank has so far only used targeted easing measures to shore up the economy with policymakers unwilling to see funds flow into unwanted sectors and create bubbles.

On Friday, China published the first leading economic indicator after a flare-up in Sino-U.S. trade tensions earlier this month and the numbers weren’t good. An official survey showed factory activity in May slumped into a deeper contraction than markets had expected, heaping pressure on Beijing to roll out more stimulus to support an economy.

“The latest survey data suggest that economic growth in China has yet to bottom out,” Julian Evans-Pritchard, senior China economist at Capital Economics, said in a note on Friday.

“Given the growing headwinds from U.S. tariffs and signs that the labor market may be faltering, we expect policymakers to roll out additional policy stimulus in the coming months.”

CRUNCH COMING

Maturing reverse repos and medium-term lending facility (MLF) loans are set to drain 993 billion yuan from interbank money markets next week, Reuters calculations based on official data showed.

Ming Ming, head of fixed income research at CITIC Securities in Beijing, said the central bank could “carry out an RRR cut to offset maturity” next week, or it could roll over MLFs while injecting more cash via reverse repos.

He added that RRR cuts were “more efficient” than simply rolling over MLF loans, and would help stabilize general liquidity in June.

Others were less convinced about the possibility of another RRR cut. The PBOC already said in early May that it would cut reserve ratios to release about 280 billion yuan for some small and medium-sized banks, in a targeted move to help companies struggling amid an economic slowdown.

It said the reduction would be implemented in three phases, giving the dates of May 15, June 17 and July 15. The funds would be used for loans to small and private companies.

A total of 1.8855 trillion yuan worth of MLF loans are set to mature in the June-August period, accounting for more than half of the outstanding such loans granted by the PBOC to financial institutions.

Meanwhile, over 4.4 trillion yuan worth of negotiable certificates of deposit (NCDs) are set to mature in the next three months, according to Refinitiv data.

In addition, cash conditions usually get tighter toward the end of June as financial institutions build up their balance sheets to meet half-year regulatory requirements.

But the central bank must be mindful not to pump too much money into the system.

Liquidity increases theoretically pile downside pressure on the currency, which has lost more than 2.5 percent against the dollar in May and is set for the worst month since July 2018.

The yuan is now less than a tenth of a yuan away from the 7-per-dollar level authorities have in the past indicated as a floor.

Some traders say the yuan could face near-term pressure as Chinese companies listed offshore usually start making foreign exchange purchases for dividend payments starting in June. Such demand could pile pressure on the yuan.

“The yuan is facing depreciation pressure now under the trade tension and growth slowdown. But policymakers should defend 7 before the G20,” Macquarie’s Hu said.

Trump is expected to meet his Chinese counterpart Xi Jinping at the G20 summit in Japan in late June.

Editing by Jacqueline Wong

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