China’s central bank said on Monday that it will carry out temporary bond repurchase agreements or reverse repos starting from Monday, a move analysts said will diversify China’s monetary policy toolkit to ensure stable financial market operations, while signaling the improvement of a market-based system for interest rate regulation.
In order to keep liquidity reasonable and ample in the banking system and improve the accuracy and effectiveness of open market operations, the People’s Bank of China (PBC) will conduct temporary bond repurchases or reverse repos depending on the market situation between 4 pm and 4:20 pm each working day, the central bank said in a statement on its website.
These overnight temporary operations will be conducted through bidding, with their interest rates set based on the seven-day reverse repos, according to the central bank.
A repo, or repurchase agreement, is a process in which the central bank sells bonds to financial institutions and promises to buy them back in the future. Currently, the 7-day reverse repo rate basically functions as the main policy rate, with an interest rate of 1.8 percent on Monday. The central bank conducts market operations in the morning to ensure ample liquidity in the banking system.
Marking another innovation in the central bank’s market operations following plans to conduct treasury bond borrowing operations, the move will diversify the central bank’s monetary policy toolkit while boosting market-based interest rate reform, analysts said.
Xi Junyang, a professor at the Shanghai University of Finance and Economics, on Monday applauded the timing of the announcement, noting that the central bank’s latest move will help mitigate interest rate fluctuations in the afternoon during quarter-end or mid-year periods.
By enriching the monetary policy toolkit, it will help adjust market liquidity timely, precisely, and swiftly so as to maintain financial market stability and prevent funds from simply circulating in the financial sector for the sake of arbitrage, Xi told the Global Times.
The move came as PBC Governor Pan Gongsheng said in June that the financial regulator will continue to reform market-based interest rate adjustment mechanisms, for example, by using a single short-term rate as a main policy rate to guide markets.
An appropriately narrowed interest rate corridor may also be needed in order to signal a clearer policy target to assure the market, according to Pan.
Adding temporary bond repurchase agreements or reverse repos in the afternoon is part of the market-based reform of interest rates, which will better reflect cash demand in the real economy, Cao Heping, an economist from Peking University, told the Global Times on Monday.
By adjusting cash supply and demand and resource allocations, such temporary operations will contribute to the achievement of monetary policy goals as well as sustained economic recovery, Cao said.
The momentum of the Chinese economic recovery remains unchanged. The economy is expected to grow by around 5.3 percent in the second quarter of the year, as a series of fiscal and monetary policies continue to produce effects, he said.
This year, China’s central bank keeps diversifying its methods for managing liquidity, developing mechanisms such as open market operations and the medium-term lending facility.
Recently, the central bank has announced plans to conduct treasury bond borrowing operations with primary dealers in the open market to increase treasury bond yields and stabilize the market by managing the expectations of market participants.
The PBC has entered into agreements with several major financial institutions to borrow treasury bonds held by these institutions, the Securities Times reported on Friday.
Analysts said that trading operations will help reduce speculative activities in the treasury bond market, but not indicate a move toward quantitative easing.
Looking ahead, the Chinese economy is still being confronted with challenges while it undergoes a continued recovery. Xi said the central bank is expected to cut the reserve requirement ratio or interest rate once in the third quarter of the year to bolster the economy, as the PBC has stressed to strengthen counter-cyclical and inter-temporal adjustments, and help consolidate and add momentum to the economic recovery.