Will China Lend More Money By Adapting Its Monetary Policy?

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Inflation in China slowed to 5.5% in October from a high of 6.5% in May. (Photo: Leonardo Freitas)
Inflation in China slowed to 5.5% in October from a high of 6.5% in May. (Photo: Leonardo Freitas)

ECONOMY

  • Central bank lowers banking reserve, promotes capital flow
  • Global stocks improve as Chinese stocks fall
  • China's real estate market, manufacturing sector drops

China is reducing its banking reserve requirements for the first time since 2008. According to the central bank's website, the reserve ratios will be cut by 50 basis points on December 5, leading to an increase of 350 billion yuan ($55 billion) to their money supply.

Bloomberg News speculates that the shift in China's monetary policy might signal that the government believes that the world's second-largest economy may be entering a deeper slowdown.

Growth: Slowest In 2 Years

Although the rate remained relatively impressive at 9.1% in the third quarter, China's growth saw its slowest annual pace in nearly two years. The shift in focus from combating inflation to stimulating growth is expected to allow the country's commercial banks to lend more money.

By increasing the availability of funds, the government hopes to regain economic growth and maintain the flow of capital through financial markets. Barclays Capital is reported in Bloomberg as forecasting at least three more cuts in China's reserve ratio by summer 2012.

Barclays Capital also predicts two interest rate downgrades next year. China has maintained a consistent interest rate since July and has not made cuts since December 2008. Although inflation slowed to 5.5% in October from a high of 6.5% in May, the rate remains well above the government's 4% goal.

A spurt in Chinese lending may boost global confidence as Europe's financial crisis worsens. Global stocks and the euro welcomed the announced reserve policy reversal.

The Euro increased to $1.3455 yesterday, and the Dow and S&P improved 4.24% and 4.33% respectively. The Shanghai Composite fell 3.3% on November 29 after the central bank's academic adviser, Xia Bin, publicly stated that credit should stay “relatively tight” and that the public should not seek a housing market reversal.

Real Estate, Manufacturing Decline

Real estate developers and borrowers have been complaining over the past few weeks about poor sales and the unavailability of credit. As the price for apartments drops 28% in some major cities, real estate brokers are now laying off thousands of agents due to loss of sales.

Property speculation has added to the risk of a deeper slowdown. According to Chinese government data, October housing transactions fell 25% from September as prices dropped in 33 cities.

China's manufacturing activity dropped for the first time in 33 months in November, according to the purchasing managers' index. The index slid to 49 last month, lower than all but two of Bloomberg's 18 surveys. Readings below 50 signal a contraction, while the opposite suggests growth.

This year, thousands of Hong Kong-based factories have closed in southern China due to higher labor costs and an appreciated currency against the dollar. Exports have slowed due to an artificially low renminbi, China's currency.

China's central bank is seeking to make it more difficult for China to continue purchasing international currencies, such as the dollar, to maintain a low currency and cheap exports. As reserve requirements are downgraded, the People's Bank of China will hold less money to buy currencies.

The bank's monetary moves are unattached to recent moves by the US and European central banks to pump more money into Europe's banking system, although both instances will help maintain global credit flow.

Key Statistics – China's Economy (source: The CIA World Factbook)

  • China's GDP purchasing power parity is currently the third-highest in the world and grew from $9 trillion to $10 trillion in 2010.
  • China's GDP per capita increased from $6,900 in 2009 to $7,600 last year.
  • Industry and services are the top two growth-promoting sectors, adding 46% and 43% to the nation's GDP respectively.
  • China's labor force is number one in the world with over 815 million workers. China's top two employing sectors are the agricultural sector (38.1%) and the services sector (34%).

By Nicole Manuel for
Nicole Manuel is a freelance economics, finance and blog writer with a degree in economics and over two years of experience.

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