China moves to deleverage without destabilizing growth

BEIJING — China is walking a tightrope between deleveraging and maintaining growth.

Authorities have tightened financial regulation and credit control and are using an expanded monetary policy toolkit to deleverage without stymieing an economic recovery.

Policy makers are wary of debt piling up in corporations, local governments and even households. They are eyeing investment booms in financial markets ranging from stocks, bonds to farm produce futures with extreme caution. This year, the task in hand is to reduce leverage and contain financial risks.

Things have escalated in recent weeks. The banking regulator has issued a flurry of directives on risk control and threatened to come down hard on malpractice. The China Banking Regulatory Commission (CBRC) last week ordered lenders to conduct self-inspections, focus on non-performing loans, fix regulation loopholes, and engage in more debt-for-equity swaps.

The Financial News, affiliated with the central bank, ran an editorial Monday saying the supervision under central bank's risk monitoring system - the macro prudential assessment - and CBRC scrutiny were both aimed at deleveraging and controlling financial risks. More such policies are in the pipeline.

Concern over the regulatory squeeze has weighed on the stock market, which on Monday posted its worst performance this year. The benchmark Shanghai Composite Index tumbled 1.37 percent.

The interbank market is also feeling the strain, with the overnight Shanghai Interbank Offered Rate - the cost at which Chinese banks lend to one another - up 3.57 basis points on Tuesday to 2.75 percent, the highest level in more than two years.

Tightening is likely to hurt excessively levered carry trades, but unlikely to spill over to the real economy, said Liu Wenqi, an analyst at China International Capital Corporation.

Policy makers need to better manage the frequency and intensity of monetary and regulatory tweaks, balancing the contradictory goals of reduced leverage and sustained recovery, said Zeng Gang, an economist with the Chinese Academy of Social Sciences.

With monetary policy shifting away from a relatively loose stance, the central bank has been feathering, not slamming on, the credit brakes.

Commercial banks made a total of 4.2 trillion yuan ($610 billion) in new yuan loans in the first quarter, down 8.5 percent from a year before, the first year-on-year decrease since 2011.

M2, a broad measure of money supply that covers cash in circulation and all deposits, grew 10.6 percent to about 160 trillion yuan at the end of March. The pace of increase slowed 2.8 percentage points compared with the same month last year.

Zeng believes China has finally shifted away from credit-fueled stimuli to better control of the "credit floodgate" and use funds more efficiently.

Over the past year, the central bank has steered clear of interest rate cuts and avoided tinkering with reserve requirement ratios. Instead, it employed a range of tools, such as reverse repos and lending facilities to manage liquidity.

Following the tightening of regulations, the central bank continued cash injections into the banking system to help avert any severe cash shortages. Some 170 billion yuan was pumped into the market last week, the largest weekly cash injection in three months.