BEIJING—China’s central bank said Friday it will raise banks’ reserve-requirement ratio by half a percentage point, following six such increases last year, in the government’s latest move to curb inflation.

Economists say official Chinese data due next week are likely to show the country’s fourth-quarter economic growth slowed and inflation fell in December. But officials remain concerned about inflation risks they say are fueled by loose monetary policies in other countries and a high level of global liquidity.

The ratio increase, which takes effect Jan. 20, comes after China’s consumer price index rose 5.1% in November from a year earlier, the fastest increase in over two years.

China’s gross domestic product likely grew 9.2% in the fourth quarter from a year earlier, slowing from the third quarter’s 9.6% expansion, according to the median forecast of 13 economists. China’s GDP likely grew 10.1% in 2010, up from 2009′s 9.2% rise, according to the survey.

China’s consumer price index likely rose 4.7% in December from a year earlier, down from November’s 5.1% rise, as prices of vegetables and other food items have moderated in recent weeks, according to the survey.

Source: Wall Street Journal

This is the 4th time within the past 3 months

Source: TheEdge, UOBAM and Fullerton Fund Management

Last Tuesday, the People’s Bank of China (PBOC) announced it will raise the reserve ratio requirement (RRR) by 50 bps to 16% from 15.5% for big banks and to 14% from 13.5% for smaller institutions from Jan 18 with rural credit cooperatives excluded. The PBOC also raised rates in the interbank market for the second time within a week.

As a result, the Hang Seng Index lost 578 points or 2.6% to close at 21,748 on Wednesday while the Shanghai Composite Index dived 3.1% or 101 points to close at 3,172.

This is the first time since Dec 08 (after the Lehman collapse) that the PBOC is raising the ratio. Analysts and economists were expecting the RRR to be raised sometime in February. According to Bloomberg News, a median of 11 forecasts were expecting the move to be made only in April.
Tightening was expected because China’s economy has been rebounding strongly, with real GDP growth in the third quarter of 2009 up by 8.9% and inflation turning positive in November. In UOBAM’s view, more hikes in the RRR are likely to follow in the coming months but the Chinese authorities are not likely to embark on any aggressive tightening of credit as the global economy is still weak and China needs domestic demand to stay strong. What we are seeing is possibly a normalisation of monetary policy, to return liquidity conditions back to pre-Lehman levels.

In a research note, DBS Research says that the China’s decision to hike its RRR “sends the clearest signal yet that it is beginning to tighten monetary policy”. While the 0.5 percentage point increase in bank reserve requirement only drains about RMB200-300 billion ($40.7–$61.1 billion) from the market, it could be the start of further tightening which could drain another RMB500 billion from the market. Moreover, this first step comes in the wake of the Chinese government’s concerns over inflation. Bank lending is estimated to have risen to RMB600 billion in the first week of January versus RMB295 billion in Nov ’09. Asian markets could be vulnerable should PBOC tighten further.

Recent approval of index futures trading, margin trading and short selling is a significant milestone in the development of China’s capital markets. These will provide investors to hedge their risks and may narrow the trading gap between China and Hong Kong stocks.