Banks may get more leeway on rates

China's commercial banks may get more freedom to determine their own deposit and lending interest rates with the expected acceleration of market-oriented interest rate reform promoted by the top financial regulator, according to market analysts.

Analysts' speculation was aroused when some banks' executives held a meeting last week to discuss enlarging the cap on deposit rates to 1.4-1.5 times the one-year benchmark interest rate, up from the current 1.3-1.4 times.

The free-floating range of commercial banks' deposit and lending interest rates now is guided by self-regulation in the banking sector, although the People's Bank of China, the central bank, removed both the up and down limits "in principle" in 2015, according to experts.

Dai Zhifeng, a researcher at the National Institution for Finance and Development of the Chinese Academy of Social Sciences, confirmed that the meeting took place, saying it was a signal that China's interest rate reform may be ready to enter the next stage.

The PBOC has yet to confirm the information, but raised the one-year Medium-term Lending Facility interest rate and the 14-day reverse repurchase interest rate by five basis points each as open market operations.

An important signal of the interest rate reform is that the central bank is gradually abandoning broad money supply, or M2, as a monitor of monetary policy and economic growth, while shifting to using the price-oriented tool of interest rates, said Ming Ming, an economist with CITIC Securities.

Also, the central bank is increasingly relying on open-market operations, rather than changes in interest rates or reserve requirement ratios, to manage liquidity in a more flexible and targeted manner.

The market-oriented interest rate reform started in the first quarter in 2015, when the central bank called for the building of an "interest rate corridor" - a range of interest rates provided by the central bank to commercial banks' deposit and lending.

"The recent measures taken by the PBOC indicated that the interest rate reform may accelerate, after a two-year lag due to the unfavorable financial environment," said Ming.

The reform, however, may be pushed forward gradually, to prevent fierce competition between commercial banks on absorbing deposits, which may hurt their profits, said experts.

"As banks continue to adapt to the liberalized rate environment, especially with funding cost pressure, and the central bank strengthens the interest rate corridor further, we see those efforts as necessary preparation for the convergence of benchmark rates and effective interest rates in the future," said Sophie Jiang, an analyst with Nomura Securities.

"We expected faster adaptation to more liberalized interest rates, especially deposit rates both at commercial banks and under the so-called macro prudential assessment framework," she said. "We see large banks with solid deposit franchises as less affected compared with mid-caps."

Under the reform blueprint of interest rate liberalization, central bank governor Yi Gang said the "best tactic" is to gradually unify the current "dual-track" system - composed of a government-suggested benchmark interest rate for commercial banks' lending and deposits and market-oriented money market rates, and the market will play a decisive role in determining interest rates.