Advertisement

This is what China is doing to avoid an economic slowdown

China's central bank has relaxed the rules on how much capital the country's lenders must hold in cash reserves as it seeks to maintain growth.

It is the fifth such time during the last year that the People's Bank of China (HKSE: 3988-OL.HK - news) (PBoC) has made such a move.

The measure comes amid growing concerns about weakening demand from Chinese consumers and businesses.

Apple (NasdaqGS: AAPL - news) shocked Wall Street when, on Wednesday evening, it said sales in its most recent quarter would be weaker than expected.

It blamed a drop in sales in China for the shortfall and, specifically, the trade war between China and the United States instigated by President Donald Trump.

Its warning sparked a sell-off in global stock markets already nervous about the possibility of a slowdown in the world's second-largest economy.

China's economy is thought to have grown by just 6.5% in 2018, down from 6.9% in 2017, with growth this year expected to moderate further to 6% - which would represent the weakest year of growth in nearly three decades.

The PBoC said it would reduce the reserve ratio requirement - the proportion of customer deposits that a bank must hold in cash - from 14.5% to 13.5% for larger banks and from 12.5% to 11.5% for smaller banks. The measure will be introduced in two stages on 15 January and on 25 January.

It said the move would free up 800bn yuan (£92bn) for new lending to households and businesses.

The timing of the move is significant since it will come into effect before celebrations for the Chinese New Year - a period in which cash is often in high demand due to higher consumer spending and the tradition in which relatives give children red envelopes containing "lucky money".

The announcement came shortly after Li Keqiang, China's premier, promised to cut both taxes and the reserve requirement ratio to help the country's businesses.

And the PBoC also indicated that further relaxation in the rules was possible.

It said: "The cut should be seen as a targeted adjustment, rather than flooding the financial system."

With (Other OTC: WWTH - news) 2019 just days old, it is the second easing in the rules to have been announced by the PBoC already this year.

On Wednesday, it changed the definition of what counts as a small business.

If a bank can prove to the PBoC it is lending more to small businesses, it will be allowed to place smaller reserves at the central bank, freeing up more money to lend.

So, by widening the definition of what counts as a small business, the PBoC effectively frees up more money to lend.

The measure is expected to free up a further £46bn and the PBoC said it hoped the move would "better satisfy the credit demands of small and micro enterprises".

News of the latest relaxation of the rules gave a boost to Chinese stock markets, which also received a fillip after it was announced that US trade representatives will visit China on Monday and Tuesday next week, with a view to resolving the current impasse over trade.

The Shanghai Composite Index rose by 2% and the CSI (Shanghai: 600158.SS - news) 300 Index of blue-chip stocks rose by 2.4%, with the Hang Seng in Hong Kong also finishing up by 2.25%.

However, economists are by no means agreed that the latest measures will do all that much to stimulate growth, particularly because the tweak in the rules on small businesses represents an attempt to increase lending to a specifically targeted sector of the economy.

The cut in the reserve requirement ratio is, though, the largest of its kind since January last year. It may, therefore, go some way towards alleviating fears that any slowdown will not be a sharp one.

Dean Popplewell, vice president of market analysis at the foreign exchange trading platform OANDA, said: "The cut is partly about managing liquidity ahead of Chinese New Year. But it should also provide support for the economy."

Economists at Citi, the US banking giant, added that the move could be interpreted as "China steadies the ship".