Lending slump not a concern for policymakers

Editor's Note: New yuan-denominated loans and total social financing plunged unexpectedly in July, but economists said investors should not panic over the credit contraction, which indicated that the central bank will maintain a stable monetary policy rather than tightening or easing too much. The People's Bank of China announced last Wednesday that new local currency loans totaled 385.2 billion yuan ($62.6 billion) in July, much weaker than the widely expected figure of more than 700 billion yuan. Total social financing, a broad measure of overall credit supply, dropped 546 billion yuan year-on-year to 273.1 billion yuan.

In June, credit data were much stronger than market expectations, which sparked market speculation on the possibility of further monetary easing. The credit data in July sent a clear signal that monetary policy will remain stable.

We have argued that the strong credit data in June were only temporary; similarly, we think the very weak credit data in July were also temporary. If we smooth out the monthly volatility, since the second quarter the monetary policy has shifted from a tightening bias (in the second half of 2013 and first quarter of 2014) toward a neutral stance.

We maintain our forecast that the PBOC will keep the policy rate and reserve requirement ratio unchanged for the rest of the year, and credit growth will stay stable. In particular, we expect total social financing will increase by about 16.2 percent during 2014.

The focus of monetary policy operations is to improve the efficiency of monetary transmission channels, mainly via two channels.

One is to ensure direct support from credit to the real economy, through targeted support, window guidance and tightened rules on nonbank financing activities. The other is to lower the funding cost for business borrowers by providing stable liquidity in the interbank market and guiding market interest rates to relatively low levels. It is important for the central bank to improve policy communication and the transparency of its policy implementation.

Wang Tao, head of China economic research at UBS AG

Wang Tao

Given recent signs of further policy easing and persistently low interbank rates, the market has been expecting additional monetary and credit support. The credit data in July were, however, a negative surprise.

However, we do not believe these data reflect a credit tightening by the PBOC－as evidenced by recent policy intentions expressed by the Politburo and the central bank, as well as ample interbank liquidity and strong credit growth in June, which surprised on the upside.

Some of the following factors may help explain July's credit data surprise:

First, June's exceptionally strong deposit and credit growth may have led to a larger-than-usual seasonal drop in July.

Second, tougher shadow banking regulations have reduced the layers of intermediation, which formerly inflated credit and deposit numbers.

Third, tougher regulation may have also led to more shadow banking activities being hidden in new ways that cannot be tracked by total social financing (for example, the asset management business of securities firms).

Fourth, banks may have had to cut short-term lending to companies in light of July's deposit decline, due to the seasonal post-quarter-end decline and a continued rise in wealth management products.

Finally, demand for credit in the real economy may be weak, and some of it may have already been satisfied in June.

Just as we cautioned against reading too much into the government's policy and monetary easing, especially regarding some market participants' earlier views on the PBOC's new pledged-supplementary-liquidity tool, we similarly caution against over-reacting to July's surprisingly weak credit data.

We do not see these figures as evidence of credit tightening, and we expect the August credit numbers to improve.

Hua Changchun, China economist at Nomura Holdings Inc