Photographer: Nelson Ching/Bloomberg

China's Credit Engine Hasn't Been So Powerful in a Decade

  • PBOC is far from pushing on a string with its monetary policy
  • Downside is credit growth is producing less economic expansion

China’s central bank draws a big contrast from most of its developed world counterparts, with increasing power to generate new lending through expanding the supply of money.

The latest evidence, from March credit data, shows that for all the People’s Bank of China’s challenges in adopting a new monetary policy structure, it’s proving effective in the basic mission of spurring new lending to support growth. The so-called money multiplier, a gauge of the extra credit that’s created by additional base money from the central bank, has climbed to the highest since 2006, data compiled by Bloomberg show.

Japan saw this ratio tumble in the 1990s, when banks became less interested in making new loans as they agonized over a surge in bad debt following asset-bubble implosions.

March data show that’s not yet an issue for China, which has been expanding liquidity through money-market tools such as seven-day repurchase agreements. The rise of new yuan loans and M2 suggests central bank cash injections are helping stimulate credit expansion, lessening the need for a reserve ratio cut, said Shen Jianguang, chief economist at Mizuho Securities Asia Ltd. in Hong Kong.

The central bank’s development of a wider range of tools to inject liquidity is lifting the money multiplier, China International Capital Corp. analysts led by Yu Xiangrong wrote in a recent report. That potentially allows for a slower pace of required-reserve ratio cuts for major banks in the face of capital outflows, they said. The PBOC has cut the RRR to five-year low of 17 percent from 20 percent early last year in five reductions.

"Cutting the reserve ratio now is like adding fuel to the flames," said Harrison Hu, chief greater China economist at Royal Bank of Scotland Plc in Singapore. "The PBOC will be cautious and look on from the sidelines for a while. They probably see it as unnecessary in the short term."

The downside, however, is that China’s new lending isn’t generating as much economic growth as it once did. The amount of new credit needed to boost each unit of output jumped to a record in the first quarter, said Zhao Yang, chief China economist at Nomura Holdings Inc. in Hong Kong.

That’s a warning sign that an increasing portion of the loans may not be going to productive uses, and could end up going bad. A surge in bad loans could then make banks less enthusiastic about extending new credit, crimping the effectiveness of monetary easing -- as happened in Japan.

China’s monetary policy will maintain a certain degree of looseness in the coming months given the changes to the economy and financial markets, and prudence will feature more prominently than last year, the official Xinhua News Agency said Monday in a commentary.

For now, the PBOC’s year-and-a-half-long easing cycle is hitting home -- literally. New-home prices excluding government-subsidized housing climbed in 62 cities, compared with 47 in February, among the 70 cities tracked by the government, the National Bureau of Statistics said Monday.

"The V-shaped change in sentiment over the past quarter is dramatic," Larry Hu, head of China economics at Macquarie Securities Ltd. in Hong Kong, wrote in a note. "Indeed, the stimulus in the past few months seems like a bit overkill for this year’s growth target and therefore the policy stance should and will likely turn more neutral."

— With assistance by Kevin Hamlin

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