The Chinese central bank's decision to leave the benchmark rate for home mortgages unchanged while cutting shorter duration rates suggests it intends to protect lenders' margins.
The People's Bank of China (PBOC) left the five-year loan prime rate (LPR) unchanged at 4.20% on Aug. 21 as it cut the one-year LPR by a lower-than-expected 10 basis points to a record low of 3.45%. It cut the one-year Medium Term Tending Facility (MLF) by 15 bps on Aug. 15.
The five-year LPR serves as the benchmark for home mortgages, and the markets were watching it closely amid the latest turmoil in the nation's property markets. The PBOC's decision to leave the five-year LPR unchanged surprised markets, which were expecting a 15 bps reduction in both it and the one-year LPR.
This "reluctance" to cut both LPRs "suggests that banks' net interest margins may have been squeezed further and the PBOC is becoming increasingly concerned about banks' profitability and vulnerability," Nomura analysts wrote in an Aug. 21 note.
Real estate challenges
Fresh troubles at debt-laden real estate developers in China dominated global headlines this week. China Evergrande Group filed for Chapter 15 bankruptcy in the US on Aug. 17, while its bigger rival, Country Garden Holdings Co. Ltd., has sought to extend bond repayments. Home sales by the country's top developers fell 33.1% year over year to 350.4 billion yuan in July, according to property service firm CRIC China.
The PBOC previously said it would optimize credit policies for the property sector "while coordinating financial support to resolve local government debt problems."
Nomura also expects the central banks to nudge banks to lower their deposit rates in the coming weeks, which would give lenders more room to eventually cut the prime loan rate, according to their note.
The "dearth of a clear and fast lending rate cut reflects ongoing internal debate within the government about the nature and degree of required easing and available policy space and other risks and priorities," BNY Mellon Investment Management said in an emailed note on Aug. 22.
Chinese commercial banks' NIM remained at a record low of 1.74% in the second quarter of 2023, according to data from the National Administration for Financial Regulation, the new umbrella regulator for the financial services sector.
Constraints
Banks' interest margins and profits could be a factor constraining the PBOC, said BNY Mellon. China's central bank could be additionally worried about the impact on the yuan of a wider interest rate differential with the US. The US Federal Reserve has signaled more tightening may be in store after it raised rates to a 22-year high in July.
A package of fiscal measures may be in the offing, targeting the cash flow risks at local government financing vehicles and ensuring debt stability at local governments, BNY Mellon said, which is what may have prompted the central bank to hold the five-year LPR steady.
Changes to the one-year and five-year LPR are not always synchronized, Zhou Junzhi, Chief Macro Analyst at Shanghai-based Minsheng Securities, wrote in a note on Aug. 21. The one-year rate was cut while the five-year was left unchanged in September 2019 and December 2021, Zhou said.
Chinese authorities are likely trying to avoid reversing their policy of deflating a real estate bubble that's been built over the last three decades, Zhou said. Cutting the five-year loan prime rate would stimulate new home sales, while the existing mortgages would be repriced only later.
The "focus is not on stimulating new demand, but on easing existing debt pressures," Zhou said.
As of Aug. 21, US$1 was equivalent to 7.28 Chinese yuan.