00:00We started to hear a little more about more focus on the overnight repo rate and the like.
00:04Is this just how close are we making the overnight rate into something of a main benchmark policy rate?
00:10This will remain to be a journey.
00:12So if we look at the latest announcement of the new FEMA facility, the new temporary overnight repo facility,
00:18both of these facilities are still taking the seven-day repo as the benchmark.
00:23But clearly the policymakers would want to focus a lot more on the overnight rate
00:26so that they have more effective control on short-term interest rates and liquidity conditions.
00:31So we believe that over time the overnight repo will become more and more important,
00:36but it's not going to be an immediate change.
00:39What we would like to focus on from here would be first, of course, the rate, the interest rate they
00:47will operate next week.
00:49And second, how frequently these overnight open market operations will be conducted.
00:53Would that be a regular operation like can be done on a daily basis or it will only happen during
01:00time of tighter liquidity conditions such as quarter end?
01:03The seven-day reverse repo rate is now at 1.4.
01:06What are you expecting in terms of this overnight rate?
01:09What could it tell us about signals from the PBOC?
01:11Sure.
01:12If we are seeing a neutral situation, i.e. a no-rate-cut situation, 1.3% would be about
01:19right
01:19because the gap between the seven-day and the overnight was about 15 basis points for the last 12 months,
01:29but narrower, closer to like eight to nine basis points year-to-day.
01:34The average overnight report in the last 12 months was also around 130.
01:39So if we have overnight OMO at 130 and 14-day at 140, that would be a neutral signal.
01:46But if we do have an overnight rate at 125 or lower, we see that as a de facto rate
01:51cut.
01:53Becky, some of the recent changes or the signals of changes market participants say may be geared towards plumbing, towards
02:02liquidity.
02:02When it comes to the PBOC and the shift towards what the developed market central banks are doing,
02:09what is left in there that they need to do?
02:14From the PBOC's perspective, we almost see no chance for them to tighten in the foreseeable future.
02:20When we look at China's domestic fundamental factors, the organic inflation remains to be very low.
02:26The bulk of the inflation comes from higher energy prices, which would, in our view, would be one, transitory.
02:32And second, the bulk of those would become export of inflation rather than a revival of domestic inflation.
02:39And on the other hand, when we look at China's domestic credit growth, it's one way heading down.
02:46So if you look at household new loan growth, it's turning to the negative territory, outstanding mortgage loans is outright
02:53declining.
02:54So from all these factors combined together, we don't really see a chance that China should be tightening monetary policy
02:59anytime soon.
03:00If anything, they should even slightly lower the cost of funding from both the bank's liability cost point of view
03:08as well as from loan rates point of view.
03:10So another thing to watch out for, in our view, during this policy rate transition is that whether they're going
03:17to change the pricing mechanism of the loan prime rate, i.e. the LPR.
03:21Currently, one-year LPR is at 3 percent. Five-year LPR is at 3.5 percent.
03:27Both of these are very high level compared with the actual cost of lending in the banking sector.
03:33So we don't rule out the possibility that the LPR pricing mechanism will also be changed to tie more closely
03:39with the overnight ripple rate or the overnight rate, which would also, again, a de facto rate cut from here.
03:49And going on in the background also is the push from China on the internationalization of the renminbi.
03:56I wonder what might the streamlining of the interest rate mechanism actually mean for that endeavor?
04:05The streamlining of the interest rate system would mean that China is gradually moving into a more mature system where
04:12the central bank would have greater control and more effectively managing the overnight rate.
04:19So the overall framework will lead to a decline of short-term volatility or volatility of short-term interest rates
04:27in the domestic market and making the funding of the C&Y rates more stable.
04:33So on the broader context of the RMB internationalization, we see them introducing a number of other measures, including, for
04:40example, ripple facilities for foreign investors and also the latest FEMA,
04:44which is effectively having the PBOC becoming the lender of last resort for many of the central banks that are
04:51holding CGBs or other Chinese bonds on there as part of their FX reserves.
04:56So a more stable situation when it comes to liquidity definitely support the willingness and incentive for foreign reserve managers
05:03to be holding Chinese onshore assets.
05:06The renminbi, I mean, I think it's been in a long window of appreciation.
05:09We started to see the PBOC weaken the fixed last couple of sessions here.
05:14Do you think those are signs that the appreciation could slow from here on forward?
05:18Indeed.
05:18We believe that the pace of appreciation will quite likely to slightly slow down from here.
05:23So far this year, for the most of the time, the C&Y's pace of appreciation has exceeded the pace
05:28of the forward curve.
05:30And over the last few sessions, it's underperforming.
05:33But the back job is that dollar has been rallying.
05:36So under the broader context, the C&Y remains to be quite resilient.
05:39But the thing is that we are indeed starting to see a further widening of interest rate differential.
05:45We are talking about 300 basis points of rate differential between short-term CGB and U.S. Treasury rates, 250
05:50on the back end.
05:51And then this trend might even widen further because, as we said, we see room for China, short-term rates
05:59to decline from here.
06:00And market is pricing in high probability for the fact to hike.
06:03So from the C&Y's perspective, how we see is that we don't think this is going to be the
06:07end of its appreciation.
06:09It will continue to appreciate, but probably quite similar to the pace of what the forward curve is pricing in
06:15and a pace that's slightly slower than what we have seen so far this year.
06:21Becky, the thing about the UN appreciation also that market participants have been highlighting is how it seems a bit
06:27distracted or moving away from the fundamentals.
06:31I mean, you look at what is happening macro, you know, consumption, retail sales, that is continuing to be a
06:37concern even at a time when they're trying to rebalance the economy, right?
06:39How long do you think that dynamic can continue to your point about, you know, maybe the climb slows a
06:47bit further?
06:49If we purely look at economic fundamentals or momentums, it has indeed started to slow down since April this year.
06:56But if we look at other currency fundamentals, it's actually staying very strong.
07:00For example, balance of payment situation, trade surplus still near record high.
07:05And if we look at China's export momentum, it's rising again.
07:10And once you dig into the details, you also find that all these export strengths, it's still very much structural,
07:16either due to a strong demand for new energy products or industrial upgrades,
07:21or China has also benefited from this AI cycle across semiconductor exports as well as other related hardware exports.
07:29So from our perspective, if we purely look at currency fundamentals from balance of payments perspective, it's staying very strong.
07:35The only thing that's less favorable would be interest rates.
07:39The rate gap between the CNY and the rest of the world has been widening.
07:42And our belief is that it will quite likely to widen further from here because we are still talking about
07:47monetary policy divergence.
07:49But when we look at the broader context of the things, foreign ownership in China's domestic assets, it's still very
07:57near record low.
07:58We only started to see one month of foreign funds returning to China's bond market in May after 12 months
08:05of consecutive outflows.
08:07And foreign holding of all the other assets remains to be very, very much underweight.
08:11So there's nothing to be sold by foreign investors at this stage.
08:14And from the Chinese corporate's perspective, if they still continue to see hefty trade surplus,
08:20the odds is that CNY will stay very much supported despite lower interest rates.
08:24So there's nothing to be sold by foreign investors.
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