China cuts banks' reserve requirement ratio

China's central bank took further measures to cushion its economic slowdown amid the cheaper shares and the weakening currency by reducing the amount of cash the nation’s lenders must lock away.

The required reserve ratio will drop by 0.5 percentage points effective March 1, the People’s Bank of China said on its website Monday. That will take the level to 17 percent for the biggest banks, still one of the highest such ratios in the world. The move marks a return to more traditional easing after the central bank indicated in recent weeks it would spur growth by guiding interbank markets lower and injecting liquidity through open-market operations.

Governor Zhou Xiaochuan highlighted scope for further action ahead of a Group of 20 meeting in Shanghai last week, saying China had “multiple policy instruments” to address growth risks. Finance Minister Lou Jiwei said at the event that China will expand its fiscal deficit to support structural reforms to the economy, which slowed to a 6.9 percent growth pace last year, the weakest since 1990.

The central bank said it lowered the reserve ratio to guide stable and appropriate growth in credit and create appropriate monetary and financial conditions for supply-side structural reform, according to a statement on its website.

New Approach

China’s central bank has preferred a newer monetary approach in recent months.

“The PBOC had signaled that it was moving away from blunt instruments like the RRR, and toward more subtle tools to manage liquidity and interbank rates,” Bloomberg Intelligence analysts Tom Orlik and Fielding Chen wrote in a note. “That adds to the surprise factor in the return of the RRR.”

People’s Congress

The RRR cut adds to the supply of money in the economy, rather than cutting borrowing costs directly as an interest-rate reduction would. As such, it may not lead to capital outflows in the same way a rate cut could.

The timing suggests the move is an effort to stabilize the stock market before officials gather for the annual session of the nation’s legislature on March 5, according to Li Liuyang, Shanghai-based chief financial market analyst at Bank of Tokyo-Mitsubishi UFJ.

The National People’s Congress is scheduled to meet over the course of nearly two weeks to discuss policies for 2016 and China’s next five-year plan. Premier Li Keqiang will start the proceedings by outlining his work report, which looks back at the past year and outlines plans on everything from economic growth to health and education policies.

Fiscal Firepower

Fiscal policy support will likely be reflected in increased investment and social spending, tax cuts and reforms, and increased quasi-fiscal spending on infrastructure, strategic industries, and social welfare, UBS Group AG economists led by Wang Tao wrote in a recent note. Infrastructure projects such as railways, subways, pipelines, water projects, environmental and new-energy projects will continue to be boosted, they wrote.

That’s where central government fiscal support comes in, to help provincial authorities relocate laid-off workers. That in turn may mean more debt. Louis Kuijs, chief Asia economist at Oxford Economics in Hong Kong, said the central bank needs to walk a fine line.

“Today’smove shows that, while they shy away from cutting benchmark interest rates,they are willing to use the relatively high-profile instrument of a RRR cut,”Kuijs said. “It remains to be seen what the effect on the FX market is.However, this move suggests that, in the end, supporting growth takes priority over other considerations.”