China Begins ‘Early Stage’ of Interest-Rate Increase (Update2)

By Bloomberg News
Jan. 8 (Bloomberg) -- China’s central bank began to roll back its monetary stimulus for an economy poised to become the world’s second-biggest this year, seeking to reduce the danger of asset-price inflation after a record surge in credit.
The People’s Bank of China yesterday sold three-month bills at a higher interest rate for the first time in 19 weeks. The central bank has kept its benchmark one-year lending rate at a five-year low of 5.31 percent after five reductions in the last four months of 2008, and in the first 11 months of 2009 allowed a record 9.21 trillion yuan ($1.4 trillion) of new bank loans.
"It’s a signal toward the commercial banks, because the commercial banks allocate their lending at the start of the year
-- it’s a signal not to overindulge," said Alaistair Chan, an economist with Moody’s Economy.com in Sydney. "They’re going to tighten in various ways," including using the benchmark rate and required capital reserve ratio for banks, he said.
China’s policy makers are seeking to sustain a rebound in its economic growth, driven by fiscal stimulus and looser credit that spurred a construction boom, without stoking prices of stocks and property. Along with higher rates and an increase in banks’ reserve ratio, officials are projected to allow the yuan to appreciate this year after preventing gains since July 2008.
China will seek to slow new bank lending to 7.5 trillion yuan this year, the China Securities Journal said yesterday, citing an unidentified person.

Lending Curb

The central bank may this month start issuing guidance to banks on how much credit they can extend, Bank of China Ltd.
said today. New credit may fall to less than 2.6 trillion yuan in the first quarter from 4.58 trillion yuan in the same period a year earlier, Bank of China analyst Shi Lei wrote in a note.
The PBOC offered 60 billion yuan of three-month bills at a yield of 1.3684 percent, 4 basis points higher than at last week’s sale, it said in a statement yesterday. The central bank is set to withdraw 137 billion yuan from the financial market this week, the most since the week ended on Oct. 23, according to data compiled by Bloomberg News.
"The move is best seen as an early stage of interest-rate increases," Barclays Capital economists Peng Wensheng and Jian Chang wrote in a note to clients today. Higher bill rates will influence the cost of credit between banks, and "help to prevent a rebound in bank lending, expected in the first few months of 2010, from becoming ‘excessive,’" they wrote.

Loan Quality

Central bank Governor Zhou Xiaochuan this week reiterated government warnings that investment in industries with excess capacity and in redundant infrastructure projects could threaten banks’ loan quality.
The PBOC will guide credit, seeking to avoid volatility in lending, Zhou said in an interview dated yesterday on the Web site of China Finance, a central bank publication. Investment in duplicated projects or industries with overcapacity could "pose a risk to the quality of banks’ loans," Zhou said.
Yesterday’s announcement spurred concern among some traders that higher borrowing costs may damp economic growth in China, projected by the International Monetary Fund to accelerate this year to 9 percent from 8.5 percent in 2009. Stocks fell across Asia, and oil and copper also declined.
The MSCI Asia Pacific Index of regional stocks fell 0.6 percent yesterday and oil for February delivery slid 0.6 percent after 10 days of gains. Copper for three-month delivery extended yesterday’s 1.6 percent drop today. The Shanghai Composite Index declined 0.9 percent at 1:03 p.m., after Bank of China Ltd. and Industrial & Commercial Bank of China Ltd. led a 1.9 percent fall yesterday.

Market Impact

PBOC moves to tighten policy "are likely to cause transient profit-taking pressures on markets occasionally as investors have become hooked on easy and cheap money," RBC Capital Markets emerging-market analysts, headed by Nick Chamie in Toronto, wrote in a report. "Given it’s a confirmation of an improving growth outlook, any pullback should be within the context of a typical early cycle policy adjustment phase."
Any efforts to rein in lending probably won’t weigh on economic growth, and productivity will keep a lid on inflation, Mark Mobius, who oversees $34 billion of developing-nation assets at Templeton Asset Management Ltd., said in an interview yesterday in Singapore. China’s property market isn’t about to crash, he said.
"The Chinese will act rationally and they’re not going to kill the market," Mobius said. "There’s still a lot of savings in China."

Supporting Growth

The investor said he plans to increase holdings in Chinese stocks by purchasing shares that benefit from consumer demand, including developers and raw-material suppliers.
The central bank said that policy makers need to support "relatively fast" economic growth while managing inflation expectations, in a Jan. 6 statement after an annual work meeting.
The government is projected to report later this month that gross domestic product rose 10.5 percent in the fourth quarter of 2009 from a year before, according to the median of 39 estimates in a Bloomberg News survey. The pace would be the fastest since the first three months of 2008.