China’s slashing of its key lending rates on Monday marks one of the most forceful interventions from the People’s Bank of China (PBOC) in recent years.
The one-year loan prime rate (LPR) was reduced by 25 basis points to 3.1%, and the five-year LPR, widely used as the benchmark for mortgages, fell by a similar margin to 3.6%.
For global investors, this news couldn’t come at a better time. The world’s second largest economy has been mired in sluggish growth, largely driven by a combination of property market woes, deflationary pressures and muted consumer demand.
These rate cuts signal a new level of urgency among Chinese policymakers, underscoring their commitment to reviving a growth trajectory that has been faltering for months.
For investors, this is a welcome move. Lower borrowing costs should support businesses and households, unlocking fresh liquidity and reigniting the economic momentum that has been sorely lacking.
However, while monetary easing will undoubtedly be a powerful lever, it’s increasingly clear that a more potent fiscal response – especially targeting households– will be the key to achieving the country’s year-end target of 5% GDP growth.
Ripple effect
Global markets tend to breathe a collective sigh of relief when China’s central bank moves decisively to bolster its economy.
The PBOC’s rate cuts will have a rippling effect boosting optimism among global investors, many of whom have been eyeing China’s economic headwinds with a growing sense of apprehension.
Lower rates can be expected to spur consumer spending and investment in critical sectors, creating a more favorable environment for Chinese equities and bonds.
These moves should also ease concerns over China’s struggling property market, a significant pain point for the global economy.
A more accessible credit environment could help distressed property developers and, in turn, stabilize a sector that accounts for nearly 30% of China’s GDP. If the PBOC’s recent cuts manage to restore some confidence in this sector, that alone could have wide-reaching effects across global financial markets, from commodities to equities.
Also, with China being the largest consumer of raw materials and an engine of global demand, a recovery in its property sector would likely lead to a broad-based rally in commodities, boosting markets worldwide.
Positive but insufficient?
However, despite the immediate cheer these cuts will generate, investors understand that monetary policy alone can only go so far.
The problem China faces is multi-dimensional, and while lower interest rates will help ease the financial burden on companies and individuals, they do little to address the deeper structural challenges plaguing the economy.
Consumer confidence in China is still low, weighed down by the ongoing property slump and concerns over deflation.
Businesses, too, have been hesitant to ramp up investment, given the lackluster demand. This means that, for all the benefits of monetary easing, the liquidity unleashed by lower rates may not translate into the robust consumption or investment needed to spark a meaningful recovery.
The challenge lies in the fact that many of the issues stifling China’s economy are demand-side in nature.
It’s not that consumers and businesses can’t borrow – it’s that they’re hesitant to spend and invest.
To truly revive China’s growth engine, monetary policy must be complemented by bold fiscal measures aimed at directly stimulating consumption and investment.
What China needs now is a decisive fiscal response, one that puts cash directly into the hands of households.
A large, targeted fiscal package, whether through tax cuts, subsidies or direct cash transfers, would go a long way toward reigniting demand.
Furthermore, a fiscal push aimed at bolstering household incomes would help offset the burden of rising living costs and stagnating wages, which have been key contributors to the dampened consumer sentiment.
With more disposable income, households are more likely to spend, particularly on housing, which would have the added benefit of alleviating pressures in the property sector.
By combining fiscal stimulus with the recent wave of monetary easing, China could set the stage for a much stronger recovery, one that’s sustainable over the medium to long term.
In doing so, Beijing would not only boost its chances of hitting its 5% GDP growth target for 2024 but also reassure global markets that it has the tools and the will to counteract its economic slowdown.
Nigel Green is the founder and CEO of deVere Group.