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Economy

China lets loose more liquidity to aid small businesses

Focus shifts to prospect of interest rate cut after move to free up bank reserves

A worker makes lithium ion batteries at a factory in Dongguan, Guangdong Province. Chinese authorities want to spur banks to lend to small and midsize companies.   © Reuters

BEIJING -- China's central bank decided Friday to reduce the level of cash that banks must hold as reserves to boost liquidity and support private companies caught between the U.S. trade war and Beijing's deleveraging effort.

The 1-percentage-point cut to reserve requirement ratios marks the first such move since October, and focuses attention on whether the People's Bank of China will next lower policy interest rates -- something it has not done since fall 2015.

The reserve ratio cut, which is expected to free up a net 800 billion yuan ($116 billion) for banks to channel into financing, shows Chinese authorities taking a more accommodative monetary policy stance than in 2018 as trade tensions add to the pressure on the economy.

The PBOC said in a statement accompanying Friday's decision that it will "continuously implement prudent monetary policy," dropping the word "neutral" used when it cut reserve requirements in October. The omission, which indicates a looser stance, follows a decision by the Central Economic Work Conference -- an annual meeting of top policymakers -- to delete the term in December.

Attention now turns to the possibility of a rate cut. China has maintained its benchmark interest rates since October 2015, when it lowered them to 4.35% for one-year loans and 1.5% for deposits.

In December, the PBOC reduced the interest rate on one-year loans in its medium-term lending facility by 0.15 percentage point to 3.15%, the first such drop in three years. Market watchers speculate that a cut to benchmark rates is not far off.

China's gradual liberalization of interest rates has allowed lenders to set their own rates regardless of the benchmarks. Banks in each region still tend to coordinate their deposit and lending rates, however, giving policy rates an unseen influence.

Lending by Chinese banks is skewed toward low-risk, state-owned enterprises. Private businesses face difficulty obtaining credit and pay high interest rates when they do.

Before Friday's PBOC decision, Premier Li Keqiang urged the central bank to cut reserve requirements, and he has called on commercial banks to increase lending to the private sector and small businesses.

But a reduction in interest rates carries the risk of fueling capital flight. The PBOC is likely to proceed carefully on such a change after assessing the market reaction to December's move.

Friday's reserve ratio cut lowers the level to 13.5% for large banks. The central bank will carry out the decrease in two equal rounds of 0.5 percentage point on Jan. 15 and Jan. 25.

The central bank lowered the ratio three times in 2018 by a total of 2.5 percentage points.

Releasing funds for banks also helps prevent any shortage of money before Lunar New Year in early February, a period that typically brings a rise in cash withdrawals.

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