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Micron Associates, China's Message to Banks: No More Easy Mo

by joanjenner95

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Chinese Premier Li Keqiang has shown China’s bankers that he’s not to be trifled with. Since assuming office in March, Li has urged them to curb speculative lending, with little effect. In mid-June, he abruptly cracked down. The People’s Bank of China (PBOC)—which, unlike the Federal Reserve, takes orders from the government—broke with custom and didn’t supply funds to the banking system to offset a liquidity shortage. Interbank lending rates, the interest that banks charge each other for short-term loans, soared as banks scrambled to fill the hole in their balance sheets. It was the central banking equivalent of whacking a hog across the snout.

The hard-line approach contributed to the biggest drop in Chinese stocks in almost four years and alarmed investors worldwide. “Allowing liquidity to dry up to communicate your message strikes us as a dangerous game,” says Andrew Elofson, senior research analyst in Seattle at asset manager D.A. Davidson. Li relented the next week, but only a little. Late on June 25 the central bank announced it would act to ensure adequate liquidity. The next day the widely watched overnight repurchase rate was fixed at 5.6 percent—off its June 20 peak of nearly 13 percent, but well above its average of 3.1 percent this year. “Welcome to Li Keqiang’s surgery,” Stephen Green, head of Greater China research at Standard Chartered, wrote in a June 21 note.

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