In most cases, the modified deposit reserve ratio doesn't signal a change of monetary policies, nor does it imply a stimulus for the stock market, explained Zhou Xiaochuan, China's central bank governor, during his recent press conference on the sideline of the National People’s Congress (NPC) earlier in March. He said the new ratio also did little to funnel the capital influx to the real estate market.
Zhou Xiaochuan, China's central bank governor [By Li Huiru/China.org.cn]
First of all, the world's major central banks are currently accentuating on loose monetary policies in an effort to rescue their domestic economies. For example, Britain, Japan, the EU and the U.S. are all formulating new rounds of flexible monetary policies, which would probably lead to excessive liquidity in the global financial market.
Yet the People's Bank of China, the Chinese central bank, would not follow this trend as it did in 2008, as per statement by Zhou. In 2008, China mirrored the loose monetary policies in the EU and the U.S. even though it had been little affected by the financial crisis. However, while its aftermath is still inflicting today’s economy, the new round of the central bank's monetary policy will instead take a more prudent approach.
For instance, Zhou said the deposit reserve ratio cut signals neither the loose nor the tightened monetary policies. His words indicate the two previous cuts affected little of the process from which the growths of currencies and credits are being normalized – a fundamental goal of monetary policy. Presently, the central bank in China does not plan to resume the loose monetary policies that it adopted in 2008.
Meanwhile, the business model of domestic commercial banks known as "early lending, early return" in past years has transformed since 2011. Banks' monthly growth of the credit loans hovered above 700 billion yuan (US$111 billion) in January and February this year, falling sharply compared with past years.
Some people believe that the decline, which may last for a period of time, was probably caused by weakened domestic demand of credit loans. If the downward trend continues, the central bank will concentrate more to leverage the interest rates, lowering them to boost demand.
This assumption is flawed. As long as the government maintains restrictions on the quantity and price of the credit loans, the thirst from domestic enterprises and individuals cannot be quenched. The decline of the credit market in the first two months of the year is more likely caused by new business models in banks.
Even if the central bank lowers the deposit reserve ratio a step further, which would probably infuse the commercial banks with more capitals for loans, those banks may not make all those money available for lending as they did previously. Instead, they would avoid risks and channel the money to the projects with higher efficiencies. If the monthly credit loan grows at 700 billion yuan (US$111 billion) on average this year, then the yearly growth would be around 8.2 trillion yuan (US$1.3 trillion).
Moreover, the monetary policies generally incorporate quantity tool (the deposit reserve ratio and open market operations), price tool (the rate) and exchange rates. Therefore, when the central bank cut the deposit reserve ratio twice since December 2011, the market started to speculate that China was veering toward a loose monetary policy.
The speculation prevailed in particular when some media reported that each time the bank cut off one percentage point, 800 billion yuan (US$127 billion) in cash would be made available for loans from commercial banks. Those capitals were also presumed to flow to stock and real estate markets.
Real estate developers were euphoric at the news, thinking the inadequate capital flow would soon be alleviated by cash infusions. I pointed out in an article at the time that the lowered deposit reserve ratio would have little influence on the stock and real estate markets, and the impact would be particularly slight in the property market.
That is because the dramatic increase of the deposit reserve ratio in previous years did not target directly to control the capitals used for loans. Rather, it had been a tactic to offset the brunt of the funds outstanding for foreign exchange and to guarantee the rationality of the liquidity in the market.