China’s Surprise Rate Cut Is the Bare Minimum

In finally trimming a key interest rate, China did the bare minimum to display attentiveness to sluggish growth and anemic levels of inflation. This is far from a major shot in the arm for the economy. That may await cuts by the Federal Reserve, an uncomfortable degree of dependence on
the nation’s biggest rival.

The action by the People's Bank of China is the surprise that almost doesn’t fit the description. True, few economists predicted the step on Monday. But the case for markedly easing borrowing costs, not merely nudging them a tad lower, has been compelling for a while. The reduction of 10 basis points in the seven-day repurchase rate, followed quickly by similar steps from commercial lenders, looks grudging. The best that can be said is that, coming after a major Communist Party gathering, the move suggests at least some desire to shore up growth.

By the standards of other major economies, China isn’t doing terribly: Gross domestic product expanded 4.7% in the second quarter from a year earlier, less than anticipated but far from a disaster. Exports have cranked up. Inflation certainly hasn’t been a concern for PBOC Governor Pan Gongsheng in the way it has bothered Fed Chair Jerome Powell or European Central Bank President Christine Lagarde.

By past standards of China's economy, and expectations for a post-Covid resurgence, however, the performance is disappointing. The growth surge after reopening evaporated quickly and the pace of price increases has struggled to stay above zero. Factory-gate prices are falling. Deflation stalks China, an unenviable position that would ordinarily require — and receive — a muscular remedy.

The scale of the monetary response has been underwhelming. After all, the specter of deflation was one of the big factors that pushed former ECB chief Mario Draghi to utter one of the most memorable phrases in modern economic history: “Whatever it takes.” (Draghi was also trying to extinguish a debt crisis within the euro zone.)

China has fretted about the pressure that bigger, and more regular, rate cuts would apply on the yuan. The currency is down 2.4% this year and is hovering near its weakest since November. Officials would have been encouraged by the slight drop in the greenback in recent weeks, a product of growing speculation that Powell & Co. are readying a rate reduction in coming months. Next week's meeting of the Federal Open Market Committee will be more closely watched than usual; if the Fed intends to act in September, officials will tease that with supportive language.

The PBOC is also trying to establish a floor underneath yields on long-term government bonds. Economists reckon that officials will endeavor to prevent those market rates from dipping below 2%. While Monday's easing was minor, it did push China's yields down a bit. A more aggressive step might have created greater challenges.

The move also needs to be seen in the context of the ruling party’s plenum, which just wrapped up. On Sunday, the government released a plan to revamp state finance and alleviate fiscal strain on regional administrations. The conclave doubled down on an annual economic growth target of around 5%, and affirmed President Xi Jinping’s plans to bolster advanced manufacturing. The meeting contained no hint of an overall shift in direction. Nor did any new disappointments emerge. “Neither the plenum reforms nor the 10-bp reductions are the big bang the market wants,” Bloomberg Economics wrote. “Still, the moves push in the right direction.”

The country is proceeding slowly, if not surely. Large-scale stimulus isn’t everything, and can sometimes store up long-term problems. Beijing is wary of overdoing it. Luckily for China, the Fed is there to lend a helping hand.

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