China’s renewed efforts this month to curb the volume of cash in its banking system do not so far appear to have caused much stress in money markets, although the steady rise in yuan bond yields suggests market participants are bracing for tighter and more expensive funding conditions. Tuesday was the third straight day that the People’s Bank of China (PBOC) refrained from injecting cash into markets via its open market operations. Last week, it didn’t roll over 230 billion yuan ($33.3 billion) of maturing six-month funding through a medium-term lending facility (MLF).
Money market participants were not surprised at this, however. Chinese authorities have been avidly tightening cash supplies in the economy as they seek to rein in speculation and curb risks from excessive borrowing. The PBOC abstained from open market operations for 13 consecutive sessions in April. Unlike in March, when interbank repo rates spiked to 9.5 percent, more than three times their normal range, markets remained calm this time. The seven-day interbank repo rate was around 2.98 percent on Tuesday and has since April 28 been consistently higher than the PBOC’s 2.45 percent repo rate.
“The central bank’s control over liquidity has become tighter and tighter,” said a trader at a Chinese bank in Shanghai. The PBOC said in a statement that yuan liquidity in the banking system was “appropriate”, as it has done each time it skipped open market operations in May. That is a change from before when it would describe liquidity as “relatively high”, and traders would reckon it meant the PBOC had adjusted the threshold at which it would inject cash.
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Bond yields have risen as traders brace for tighter cash conditions as the authorities crack down harder on shadow banking and risky financial practices. “There is no more cheap money in the market. The central bank only provides the amount of cash that just meets the market demand,” said a senior strategist at a foreign bank in Shanghai. “The authorities are trying to stabilise market expectations for funding, but that does not change people’s views that market rates will rise further.”
Still, most traders also reckon the odds of another official rise in short-term money market rates are low. The PBOC has already raised rates three times this year, most recently in mid-March. Yields on the benchmark 10-year government bond hit their highest in nearly two years on Monday, and at 3.63 percent have already climbed more than 60 basis points this year. Two-year yields at 3.5 percent have risen 75 basis points so far in 2017, leaving the yield curve extremely flat.
Yields at government bond auctions have consistently exceeded market expectations. “The loosening or tightening of funds in the market is mainly dependent on the wishes of the central bank,” TF Securities said in a note. Meanwhile, 179.5 billion yuan worth of six-month MLF loans are due to mature on May 16. While it is not known whether the PBOC will renew those loans, a trader at a Chinese bank in Shanghai said she would not expect cash conditions to become as tight as they did in April. ($1 = 6.9070 Chinese yuan)
By Winni Zhou and John Ruwitch (Editing by Vidya Ranganathan and Eric Meijer)