China's reserve requirement ratio cut shows yuan worries easing

China's reserve requirement ratio cut shows yuan worries easing

China appears to have prioritized goosing growth over concerns about fund outflows, with the central bank moving Monday to cut banks' reserve requirement ratios (RRR).

The People's Bank of China (PBOC) cut the RRR, or the amount of cash banks need to hold, by 0.5 percentage point, surprising markets with the move that came in the early evening China time.

The cut, which came into effect Tuesday, means that most large Chinese banks will have a reserve ratio of 17 per cent. This is the fifth time in the past year that the PBOC has cut the RRR, with the last cut on October 23.

RRR cuts are designed to increase liquidity in the economy, in the hope of boosting consumer spending and capital investment.

"The aim clearly is to support the economy at a time that downward pressures on growth remain strong and uncertainty is elevated," Louis Kuijs, an economist at Oxford Economics, said in a note on Monday.

China's economy is slowing, with growth easing to a 25-year low of 6.9 per cent in 2015, as the world's second-largest economy continues a reform agenda to open its capital markets and shift away from its manufacturing roots. That slowdown has spurred renewed fears of a hard-landing for China's economy.

"The PBOC needs to walk a fine line," Kuijs noted. "Ambitious growth targets amid weak economic growth mean that monetary policy is called upon to help support growth. But the authorities also seem to want to support the renminbi in the face of capital outflows and depreciation pressure."

In recent months, China's currency has fallen against the dollar as policymakers shifted away from benchmarking the renminbi, or yuan, against the US dollar toward using a basket of currencies. That spurred global market volatility amid fears the mainland could sharply devalue the yuan.

Policymakers appear to have intervened to stabilize the yuan after its recent wobbles.

Additional easing measures - such as the RRR cut - could stoke further declines in the currency, as the easing measure may spur investors to pull capital out of the country in search of better returns elsewhere. China is already struggling with massive capital outflows, suffering almost $700 billion worth of capital flight in 2015, according to the Institute of International Finance.

But analysts said the RRR cut signaled policymakers weren't as worried about the outflows as by slowing growth..

"The timing (of the RRR cut) has everything to do with the fact that the renminbi is stabilizing and capital outflows seem to be easing for now," Wei Yao, an analyst at Societe Generale, said in a note Monday.

"The PBOC admitted in January that RRR cuts were not preferred then because they could add to depreciation pressure on the renminbi. So the subtext of today's cut is, first and foremost, that the PBOC is less worried about the currency and capital outflows now than just a month ago," she said.

Policymakers may have even targeted the RRR cut to balance out outflows.

"An RRR cut could be perceived as a policy tool to replenish liquidity that has left the country," Goldman Sachs said in a note Tuesday. "Our economists estimate capital outflows to be around US$88 billion for January, more or less equivalent to the amount that will be released from this RRR cut."

- Phillip Tutt contributed to this report.

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