China cuts the 5-year loan prime rate to boost credit

Liquidity conditions further loosened in China today as banks cut the 5-year loan prime rate (LPR) by 15bps to 4.45% from 4.60%,¹ roughly 10bps more than consensus estimates and the biggest cut that we’ve seen since 2019.

Though the 1-year LPR was left unchanged at 3.70%, which signals that there hasn’t been a full policy pivot or capitulation,¹ policymakers could be sending a message that a full-scale easing stimulus such as the one back in 2020 shouldn’t be anticipated. 

The 5-year LPR is widely used as the benchmark rate for mortgages in China and is a sign that policymakers are making concrete steps towards stabilizing growth. While the residential property market may yet to see a bottom in terms of price stability, it’s clear that the property credit cycle is already on the upswing.

Today’s LPR reduction coupled with last week’s announcement by regulators to lower bank funding costs and the floor on mortgage rates for first-time buyers could revive flagging housing sales.

While virus restrictions have impacted consumer sentiment and housing sales, I expect a meaningful pickup in demand once these measures are relaxed. 

More monetary and fiscal support

The Omicron wave has already moved through some major cities in China the way it has done so in other countries. While China is not out of the woods yet, I expect to see a pickup in consumption and economic activity later in 2022 over the disappointing economic data on retail sales and factory activity released earlier this week.

While the Fed in the US is focused on curtailing high levels of inflation through demand destruction, policymakers in China are trying to boost household spending in light of COVID lockdowns and a slump in the property market.

The Chinese economy continues to face fierce headwinds to growth this year though I expect policymakers to respond via more monetary and fiscal support. Today’s announcement implies that policymakers are actively working to stabilize growth, though the lack of the 1-year LPR cut and restraint on faster credit growth suggests that policymakers aren’t rushing to grow at all costs.

Investment Implications

Greater China equities have been in the doldrums recently largely due to economic concerns stemming from COVID-19 and its resulting lockdowns. While I believe investors are willing to see through shorter-term pandemic waves, for any sustainable rally in Greater China equities, I continue to look for a more meaningful boost in credit growth and financing that should then drive a more significant turn in economic activity.

While we haven’t seen a rebound in the demand for credit yet, policymakers have certainly laid the groundwork and it could be just a matter of months for demand to catch on.