China frees banks to set their own lending rates

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Chinese authorities have given the banking industry greater freedom by allowing banks to set their own lending rates.

Previously they were not allowed to lend at rates below a certain level set by the People's Bank of China (PBOC).

The People's Bank said it hoped the move would lead to lower costs for companies.

It is being seen as a significant part of the government's plan to make the economy more market-orientated.

"When Chinese President Xi Jinping came to power in March, he promised to reform the country's economy to encourage more balanced growth," said BBC Beijing Correspondent Celia Hatton.

"The announcement on bank interest rates is the first major change since that time," she added.

Analysts agree that it marks an important development in policy.

Analysis

So banks can lend at lower interest rates than before. Most observers think they won't, at least not very much in the immediate future.

But the real significance of this move is that it shows the direction China is taking.

It is one step towards a more market based financial system. It is something the IMF has been urging for a long time, most recently earlier this week in its routine annual health check on the Chinese economy.

The final destination on this path China is taking is likely to include more open capital markets and exchange rates determined by market forces - addressing the long standing allegation that China manipulates its currency to gain a competitive advantage.

"It's a very big deal, probably more in terms of what it symbolises than the effect on the economy," said Mark Williams, chief Asia economist at Capital Economics.

"China has been talking about interest rate liberalisation for a long time, this is one of the biggest steps they could have taken," he said.

Even before this move, Chinese banks had some freedom to lend at rates below the official level, but very few chose to do so.

Convertible currency

While it might not have a huge impact on the economy, analysts think the move is an important step towards allowing China's currency to float freely on the currency markets.

The United States has long been calling for that to happen, arguing that China's currency has been kept artificially low, which gives companies producing there an unfair advantage.

"This underlines that China is moving to a fully convertible currency and floating exchange rates " said Flemming Nielsen, senior analyst at Danske Bank in Copenhagen.

"Liberalisation of interest rates is a necessary condition for convertible currency and floating rates and their next step will be to widen the daily trading band for renminbi. They should do that within the next three months," he said.

Mortgage controls
Chinese steel works China hopes banks will offer lower interest rates to business

There remains an upper limit on how much interest banks are allowed to offer depositors. That currently stands at 3% with a small amount of leeway to go higher.

That relatively poor rate of return has encouraged Chinese savers to invest in unregulated investment products in the so called shadow banking system.

Controls on mortgage lending will also remain in place, to maintain the "healthy development of the housing market", the PBOC said.

"One of the dilemmas they have is that house prices continue to rise quite fast so they probably don't want across-the-board lower interest rates," said Mr Nielsen.

"We will probably have some downpayment requirements and they will maintain guidance on bank lending rates for first time home buyers while keeping tight credit conditions for second-time buyers," he added.

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