China moves another step closer to rate lib­er­al­iza­tion

New in­stru­ment will al­low mar­ket forces to have greater in­flu­ence in de­ter­min­ing in­ter­est rates

China Daily (Hong Kong) - - FRONT PAGE - By XIE YU in Shang­hai xieyu@chi­nadaily.com.cn

China has taken a gi­ant step to­ward free­ing in­ter­est rates, with the cen­tral bank in­tro­duc­ing a new in­stru­ment to the in­ter­bank mar­ket, which lets the mar­ket set the rates.

Banks were able to is­sue in­ter­bank ne­go­tiable cer­tifi­cates of de­posit as of Mon­day, the Peo­ple’s Bank of China said on its web­site.

The in­ter­est rate on the new in­stru­ments will be de­ter­mined by the mar­ket, with the Shang­hai In­ter­bank Of­fered Rate to be used as a ref­er­ence. Reg­u­lar bank de­posits are sub­ject to an in­ter­est-rate cap in China, so the new ne­go­tiable CDs will ini­tially, be avail­able to fund man­agers and par­tic­i­pants in the in­ter­bank mar­ket, but not to in­di­vid­u­als or fi­nan­cial en­ter­prises.

“This move marks another im­por­tant step for over­all in­ter­est rate lib­er­al­iza­tion,” said Lu Hongjun, pres­i­dent of the Shang­hai In­sti­tute of In­ter­na­tional Fi­nance.

With the IBNCD, banks will have to ne­go­ti­ate the cost of lend­ing among them­selves, and thus pro­vide a clearer pic­ture of the cost of cap­i­tal in a mar­ket-driven en­vi­ron­ment.

The max­i­mum ma­tu­rity for fixed- rate IBNCDs is capped at one year, with ad­di­tional terms of one month, three months, six months and nine months, while ma­tu­ri­ties for ad­justable-rate CDs are re­quired to be longer than one year, with one-year, two-year and three-year terms. The min­i­mum in­vest­ment for a sin­gle IBNCD will be 50 mil­lion yuan ($8.2 mil­lion), ac­cord­ing to the PBOC.

The PBOC also or­dered banks to dis­close their an­nual is­suance plans, and it said that the out­stand­ing value of in­ter­bank CDs may not ex­ceed the an­nual quota at any time dur­ing the year.

“It ben­e­fits liq­uid­ity man­age­ment of banks, es­pe­cially small and medium-size banks, as they need to plan long term and avoid blind pric­ing. It also helps com­mer­cial banks with their cap­i­tal man­age­ment, re­duc­ing the cost of li­a­bil­ity,” Lu said.

Given that all kinds of short-term in­ter­bank bor­row­ing and lend­ing meth­ods are al­ready in place, and short-term Shi­bor rates al­ready re­flect their pric­ing to a large ex­tent, the an­nounced lib­er­al­iza­tion of in­ter­bank CD rates “serves as a for­mal­iza­tion of largely ex­ist­ing in­stru­ments and prac­tices”, Har­ri­son Hu and Wang Tao, econ­o­mists with UBS China, wrote in a note Mon­day.

Dur­ing the liq­uid­ity crunch this past June, the Shi­bor hit record highs with the overnight rate surg­ing to 13.4 per­cent and the seven-day Shi­bor ris­ing to 11 per­cent.

An­a­lysts said the next step in in­ter­est-rate dereg­u­la­tion would be ex­tend­ing the IBNCD mar­ket to cor­po­rate and in­di­vid­ual in­vestors, of­fer­ing higher in­ter­est rates to in­di­vid­ual savers than they would get from an or­di­nary de­posit, and lib­er­al­iz­ing rates for de­posits with terms of five years or longer.

Al­though the CD will be is­sued and traded in the in­ter­bank mar­ket, the list of buy­ers (or in­vestors) is likely to be quite in­clu­sive, said Ting Lu, China econ­o­mist with Bank of Amer­ica Mer­rill Lynch.

Ac­cord­ing to PBOC guide­lines, the IBNCD can be pur­chased by mem­bers of in­ter­bank mar­kets, in­clud­ing banks, most insurance com­pa­nies, fi­nance com­pa­nies owned by big cor­po­ra­tions, se­cu­ri­ties houses and fund man­agers.

“Put dif­fer­ently, al­though in­di­vid­u­als, gov­ern­ments and non-fi­nan­cial cor­po­rates are ex­cluded from the IBNCD mar­ket, they can in­di­rectly get ac­cess via funds and fi­nance com­pa­nies,” Ting wrote.

“The IBNCD mar­ket paves the way for in­tro­duc­ing NCDs. The lat­ter opens to in­di­vid­u­als and non-fi­nan­cial in­sti­tu­tions, and is con­sid­ered the most im­por­tant step in fully re­al­iz­ing free in­ter­est rate,s” said Lu Hongjun.

Banks and fi­nan­cial in­sti­tu­tions’ pric­ing abil­i­ties will now im­prove, he added. Fur­ther­more, a de­posit insurance sys­tem should be put in place be­fore the de­posit rate ceil­ing is scrapped.

Some big banks’ net in­ter­est mar­gin may be af­fected, while nim­bler, bet­ter man­aged banks could seize the op­por­tu­nity to ex­pand their client base, he said.

Some priv­i­leged State-owned en­ter­prises might pay higher fund­ing costs and earn less on ar­bi­trag­ing.

Chi­nese savers, who al­ready have seen a long-over­due jump in re­turns on their de­posits and quasi-de­posits in bank-is­sued wealth man­age­ment prod­ucts and money mar­ket funds, are un­ques­tion­ably the win­ners of the IBNCD through ac­cess to funds (in­clud­ing MMFs), BofA Mer­rill Lynch’s re­port said on Mon­day.

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