Ratings agency Fitch has adjusted its predictions for China’s policy rate, pushing back expectations for a reduction until next year. Initially, Fitch projected a cut in 2024, but now anticipates that China will maintain its one-year medium-term lending facility (MLF) rate at 2.5% for the rest of this year and reduce it to 2.25% in the following year.
Jeremy Zook, Fitch Ratings’ head of sovereign ratings in Asia Pacific, attributed the altered forecast to several factors. One key factor is the influence of the U.S. Federal Reserve, which has maintained its interest rates at a high level. The Fed’s stance has caused concerns about the exchange rate against the U.S. dollar, limiting the flexibility of the People’s Bank of China. However, Zook remains optimistic that as the Fed begins cutting its policy rates next year, the PBOC will have more room to maneuver.
In response to the limitations imposed by external factors, Zook expects Beijing to rely more heavily on fiscal policy this year. The Fed’s decision to keep its key interest rate unchanged last week, with only one projected cut by the end of the year, has affected investor expectations. The Fed’s tighter monetary policy has bolstered the U.S. dollar against the Chinese yuan, placing pressure on China’s currency and potentially leading to capital outflows.
Zook also highlighted concerns about Chinese banks’ net interest margins (NIM), which are currently low. This presents a challenge for the People’s Bank of China, as NIM is a crucial measure of bank profitability. The last time China reduced the one-year MLF rate was in August 2023, according to official data. The MLF is set monthly by the PBOC and influences the benchmark loan prime rate (LPR), a key reference for financial institutions’ lending rates.
Despite the obstacles, PBOC Governor Pan Gongsheng emphasized that China’s monetary policy will remain “supportive.” He noted that the yuan’s exchange rate has remained relatively stable in the face of challenging circumstances. Gongsheng also pointed out that major developed economies have postponed shifts in their monetary policies, creating a gap between interest rates in China and the U.S. This discrepancy may impact future decisions regarding China’s policy rates.
The evolving global economic landscape, coupled with the U.S. Federal Reserve’s decisions, has prompted Fitch to revise its expectations for China’s policy rates. While challenges persist, particularly regarding the exchange rate and net interest margins, China is navigating these obstacles with a mix of monetary and fiscal policies. As the situation continues to develop, China’s central bank will need to adapt its strategies to maintain stability and support the country’s economic growth.
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