MLF Reduction Indicates Ample Liquidity
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On December 25, the People's Bank of China (PBOC) announced the operation of a 300 billion yuan (approximately 42.5 billion USD) one-year Medium-Term Lending Facility (MLF), maintaining the bidding interest rate at 2.00%, consistent with the previous monthWith 1.45 trillion yuan of MLF operations set to expire this month, this round of MLF operations represents a scaled-back continuationThis raises important questions about what this reduced volume means and how the overall liquidity situation in the market currently stands.
The MLF has been explicitly utilizing a rate bidding mechanism, with operation volumes predetermined based on market conditionsThe central bank's decision to only release 300 billion yuan demonstrates its accurate assessment of the current liquidity situation, suggesting that the existing market liquidity is already quite sufficient, thus reducing the necessity for large-scale capital injections.
This assessment is corroborated by recent trends in market interest ratesThroughout December, interbank overnight rates have remained below 1.5%, indicating a robust supply of short-term funds between banksThe cost of short-term fund borrowing among institutions is notably lowAdditionally, interest rates on one-year interbank certificates of deposit issued by state-owned major banks have dropped below 1.7%. This data reflects ample mid to long-term fund availability in the interbank market
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The overall generous liquidity across various maturities facilitates a moderately loose financial environment as the market transitions into the year-end and the Spring Festival, thus aiding in stabilizing market expectations and easing financial pressures on institutions, which is crucial for maintaining steady financial market operations.
In recent months, the People's Bank of China has continuously sought to diversify its liquidity provision channelsThe introduction of various operational tools has alleviated the pressure on MLF renewalsWen Bin, Chief Economist at China Minsheng Bank, noted that throughout the year, the central bank has enhanced its open market operations by incorporating measures like the buying and selling of government bonds and reverse repos, favorably smoothing out the concentrated maturity of MLF in the fourth quarter and ensuring that market liquidity remains abundant.
In October and November alone, the central bank net absorbed 89 billion yuan and 550 billion yuan through MLF operations, respectively; however, it achieved net fund provision for the entire month through transactions in government bonds and reverse repos, demonstrating a more flexible approach to fund management
Insiders have indicated that in December, the central bank has also employed various operational tools, and the total operation volumes for bond transactions and reverse repos are projected to significantly exceed the MLF maturity amount, thereby ensuring continued market liquidity.
Industry experts assert that the substitution of MLF with new tools is beneficial in reducing funding costs and alleviating banks' net interest margin pressuresHistorically, the central bank has typically increased MLF operations to provide liquidity towards the year-end, whereas this year, by reducing reserve ratios and supplementing longer-term funding, it has leaned more towards utilizing reverse repos and seven-day repos – operations that come with shorter terms and lower interest ratesZhou Maohua emphasized that this not only meets the funding needs of institutions at year-end but also mitigates their liabilities, integrating measures to address manual illegal interest supplements and self-discipline in interbank demand deposits into a cohesive multi-faceted strategy that stabilizes reasonable net interest margins for banks and further promotes a reduction in credit costs for enterprises and households.
The 2.00% bidding interest rate, remaining steady from the previous month, has drawn insights from industry experts who believe that within the new monetary policy framework, the MLF operation has become increasingly market-oriented, making the bidding rate less reflective of policy directives
Since mid-year, with the shift to a market-driven bidding rate mechanism for MLF, participating institutions have frequently referenced the one-year interbank certificate of deposit rates for their bidsThus, the MLF bidding interest rate lacks significant policy implicationsCurrently, the one-year interbank certificate of deposit rates at state-owned banks hover around 1.65%, leading to MLF bidding rates that are unlikely to be significantly higher, while smaller banks, which tend to have weaker financing capabilities, might submit slightly higher bids.
“If liquidity remains abundant, MLF operations will be fewerUnder the bidding mechanism allowing for preference towards high-yield bids, the MLF interest rate doesn't necessarily have to be low; conversely, if the central bank needs to inject more medium- to long-term funds through MLF, with broader coverage for bids, we might see a decline in the MLF bidding rate,” Zhou Maohua noted, urging a rational and dialectical approach towards market perceptions of various tools due to their substitutive nature