China late in implementing rate cuts; 2 more cuts likely in 2016: CLSA

NEW DELHI: China’s central bank cut benchmark lending rate last week, but brokerage CLSA says the rate cut came a little later than expected, as the People’s Bank of China has been wrestling with capital outflows.

Outflows have stabilised, and this is evident from the fact that the decline in the country’s forex reserve has slowed down, halving outflow to $43 billion in September, relative to the $3.5 trillion reserve.

PBoC has closed the loopholes, such as fake invoicing, which can be seen in the decline in trade with Hong Kong. It has also used derivative contracts to support the currency, which increases its leverage to support the currency, the CLSA report said.

The Asia-focused broker is of the view that the Chinese economy is expected to remain weak and it also expects the government to lower the GDP growth target to 6.5 per cent in 2016. “We believe this rate cut will be the last one for 2015, but with a weak economy, we expect two more rounds of interest rate and RRR cuts in 2016,” the brokerage said.

China's central bank last week slashed benchmark interest rates by 0.25 percentage point to 4.35 per cent. It also lowered the reserve requirement ratio for commercial banks by 0.5 percentage point to 17.5 per cent.

The PBoC explained during the press conference that the interest rate cut was primarily driven by a ‘change in price levels’ (i.e., deflation).

Although CPI was still up 1.6 per cent YoY in Sept, the PBoC believes the overall price level is relatively low, as evidenced by the negative GDP deflator (at -0.7 per cent, with nominal GDP growth of 6.2 per cent) and negative PPI (-5.9 per cent YoY), justifying this interest rate cut.

The PBoC has also announced the removal of the deposit rate ceiling. This is China’s final step at interest rate liberalisation and is negative for banks.

The global brokerage firm is of the view that this is a milestone which ends a near two-decade process. The government remains committed to financial reforms, including the opening up of the capital account, which is still slated for 2020.