China Just Injected The Most Liquidity Since January... And It's Not Enough

Just days after China's GDP unexpectedly dropped to a sub-consensus 6.0%, the lowest in three decades (with Beijing now set to reveal a 5-handle GDP in the coming months), China watchers were convinced that this week would start with Beijing again lowering its "Libor rate", i.e., the previously discussed Loan Prime Rate, especially with the Fed expected to cut rates once again next week. However, that did not happen as China kept its one-year prime rate for new corporate loans unchanged in October, at 4.2%, and above the 4.15% consensus estimate. The five-year benchmark was also kept unchanged at 4.85%.

As we reported previously, the Loan Prime Rate, also called China's "Libor", is a revamped market indicator of the price that lenders charge clients for new loans, and is linked to the rate at which the central bank will lend financial institutions cash for a year. The rate, which is updated once a month, is made up of submissions from a panel of 18 banks, although ultimately it is Beijing that sets the final rate.

Analysts were quick to step in and "explain" away the unexpected move: Commerzbank's Zhou Hao said that a static one-year rate shows China “may be trying to balance the shrinking margins of banks with support to the real economy,” adding that "the PBOC remains restrained on policy easing.”

The market, however, was less sanguine, as the PBOC's lack of easing was promptly taken as an ill-omen: China's government bonds dropped while money-market rates climbed, amid bets that the policy makers are not in a rush to loosen monetary policy (why? perhaps China's gargantuan debt load and rapidly devaluing currency have something to do with it). On Monday, the yield on 10-year sovereign notes rose three basis points to 3.22%, the highest since July 1, while the costs on 12-month interest-rate swaps advanced to the highest level since late May.

While the Chinese economy has been under pressure amid a prolonged trade dispute with the US, many have expected that the central bank would match the Fed's easing and lower corporate borrowing costs and further cut bank reserve ratios. However, so far the PBOC hasn’t embarked on an aggressive stimulus program as some market watchers had hoped.

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