China banks

China loosens its leash on banks

China removes the floor for lending rates, but the move is unlikely to lower funding costs for companies in the short term.

China took another cautious step towards freeing its banks from regulation on Friday by abandoning its floor on lending rates.

The People’s Bank of China said in a statement that it would scrap the floor on lending interest rates. Chinese banks are not allowed to set lending rates below 70% of a guidance rate set by the central bank.

The PBoC said the move is designed to lower borrowing costs for individuals and smaller companies. However, some analysts said the reform would not lead to a significant or immediate change of banks’ lending practices and lending rates, because most lending rates are already higher than the interest rate floor.

“The real economy may not get lower funding cost, and economic growth may not benefit much from this move,” said May Yan, an analyst at Barclays.

Only 11% of bank loans in the first quarter of this year were extended at lending rates lower than the benchmark, according to a monetary policy report by the PBoC on May 9.

 

The move is another step in the gradual reform of China’s financial system. The central bank has been freeing up interest rates since 1996. In June and July of last year, the bank cut benchmark lending and deposit rates and introduced floating bands.

But so far China has shied away from removing controls over deposit rates. The PBoC left the ceiling on deposit rates and the 70% floor on mortgage lending rates unchanged partly because it is worried about speculation in the property sector and the effect on banks’ profitability.

The PBOC indicated that it will coordinate with other government agencies to further prepare for deposit rate liberalisation and a “steadily, orderly push forward [toward] deposit rate liberalisation”.

Yu Song, a Beijing-based economist with GoldmanSachs Gao Hua Securities, suggested future possible reform may include liberalisation of exchange rates, especially against the US dollar; deposit rate ceiling changes; and establishment of a deposit insurance scheme.

For an in-depth analysis of China’s financial reforms please read the cover story in the July issue of FinanceAsia magazine.

Alison Tudor-Ackroyd contributed to this article 

 

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