Goldman Recasts PBOC Forecasts Amid Bank Guesswork: China Credit

Goldman Sachs Group Inc. has dropped forecasts for the benchmark interest rate of China’s central bank from its annual outlook, while Societe Generale SA bemoans the “guesswork” behind tracking the nation’s shifting targets.

Goldman Sachs designated the seven-day repurchase rate as its key barometer, after the People’s Bank of China’s one-year lending rate became less relevant, according to a Nov. 21 report. The PBOC, which removed a floor on what lenders could charge below its 6 percent benchmark in July, hasn’t changed its “prudent” monetary policy stance. Yet the repo rate, fixed at 4.66 percent today, swung between a high of 10.77 percent in June and a low of 2.50 percent in March.

The switch by Goldman Sachs highlights the challenges Chinese authorities face in influencing monetary policy while they transition from a system of state-directed credit to one where markets play a “decisive” role in pricing capital. The 10-year government bond yield has surged almost 1 percentage point in the past year and reached the highest since at least 2007, even as the PBOC’s benchmark rates were unchanged.

“The seven-day repo rate is more important than it was,” said Song Yu, an economist at Goldman Sachs in Beijing who is ranked as the No. 1 forecaster of China’s economy by Bloomberg. It is becoming a more relevant “indicator of monetary-policy intentions than the other rates” as the central bank moves toward a system that is more market-based, Song added.

Rate Reform

Goldman Sachs, in its emerging-Asia 2014 outlook report, projected the repo rate will rise by 0.25 percentage point in each of the next four years, from 4 percent at the end of 2013. Australia & New Zealand Banking Group Ltd. is using short-term money-market rates as indicators of the central bank’s policy intentions, economists led by Liu Li-Gang said in a report published yesterday on China’s prospects for next year.

Interest-rate liberalization is part of the reform plan unveiled after a Communist Party summit last month, which set a goal of 2020 for all of the policy shifts. People’s Bank of China Deputy Governor Yi Gang said the repo rate or the Shanghai Interbank Offered Rate can become the new benchmark, without giving a timetable, according to a Nov. 26 report by the official Xinhua News Agency.

China will also promote market-determined deposit rates instead of those capped by the government “when conditions are mature,” Yi said, according to Xinhua. Commercial banks must first get accustomed to using the new benchmark as the basis for pricing financial products, Xinhua cited Yi saying.

‘Guesswork’ Required

Competitors have yet to follow Goldman Sachs’s switch. Societe Generale forecasts the 3 percent one-year deposit rate, which the PBOC still controls, as the benchmark for China. Hu Yifan, chief economist at Haitong International Securities Group Ltd. in Hong Kong, said the lending rate is still useful as a reference rate.

“It still takes a lot of guesswork” to see how the PBOC is setting monetary policy, said Yao Wei, China economist at Societe Generale in Hong Kong. “The problem is, we cannot take the interbank rates too literally, meaning we should not focus on the day-by-day change. We have to take several months to make that judgment. That’s somewhat difficult for the markets to understand.”

The central bank sowed confusion in June when it left investors, bankers and market participants in the dark for four days after the repo rate surged. The rate spiked again in October without detailed communication from the PBOC, prompting some investors to call for greater transparency.

Transparency Sought

The PBOC “needs to improve communication with the market regarding its policy stance,” JPMorgan Chase & Co. economists led by Zhu Haibin in Hong Kong wrote in a Nov. 29 report. The use of some tools for liquidity and reserve ratios “should be more transparent,” they wrote.

Tight monetary conditions will extend into the first quarter as the PBOC controls credit expansion amid a resumption in initial stock sales, said Huang Hai, Beijing-based deputy research head at SDIC CGOG Futures Co. The yield curve will keep “moving upward,” with longer maturities increasing less than shorter ones, Huang said.

The yield on 10-year government bonds increased 44 basis points this quarter to 4.44 percent yesterday, while that for one-year debt climbed 50 basis points to 4.05 percent, ChinaBond data show. The yuan strengthened 0.5 percent to trade at 6.0918 per dollar as of 11:21 a.m. today in Shanghai.

China in June 2012 allowed banks to offer deposit rates capped at 110 percent of benchmarks. The central bank left the ceiling intact this year as it removed the floor on lending rates, saying that deposit-rate reform was the “most risky” part of liberalization.

Prime Rate

The PBOC on Oct. 25 began publishing a “loan prime rate” based on quotes from banks and signaled it may eventually replace the current benchmark. The new rate stood at 5.73 percent yesterday, compared with 5.71 percent when it started.

The central bank hasn’t entirely eliminated the one-year lending rate’s use as a guidepost because mortgage loans are still limited to a maximum 30 percent discount from the benchmark.

“They will continue to announce the benchmark lending rate, but I think it will lose significance and relevance over time” as the prime rate gains importance, said Ding Shuang, senior China economist at Citigroup Inc. in Hong Kong.

Citigroup, in its 2014 China outlook report published Nov. 26, provides forecasts for the benchmark deposit rate as the nation’s “policy interest rate,” along with projections for the one-month Shibor, which was fixed at 6.28 percent yesterday.

“The interbank rate is extremely difficult to forecast,” Ding said. “It’s a short-term rate and it’s very volatile.”

— With assistance by Scott Lanman

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