SHENZHEN, CHINA – NOVEMBER 16: A boy sits in front of a Bank of China branch while using a smartphone on November 16, 2024 in Shenzhen, Guangdong Province, China.
Cheng Xin | News Getty Images | Getty Images
China’s commercial banks have a big problem.
With consumers and businesses gloomy about the outlook for the world’s second largest economy, credit growth has stalled. Beijing’s stimulus has so far failed to stimulate demand for consumer credit and is yet to spur a more significant recovery in the faltering economy.
So what do banks do with their cash? Buy government bonds.
Chinese government bonds have rallied strongly since December, with 10-year yields falling to all-time lows this month, falling about 34 basis points, according to LSEG data.
“The lack of strong demand for consumer and corporate credit has led to capital flows into the government bond market,” said Edmund Goh, chief investment officer for fixed income at abrdn in Singapore.
Still, “the biggest problem on the mainland is the lack of funds to invest,” he added, because “at the moment there are no signs that China can get out of deflation.”
Total new yuan loans in the 11 months to November 2024 fell more than 20% to 17.1 trillion yuan ($2.33 trillion) from a year ago, according to data published by the People’s Bank of China. In November, new bank loans amounted to 580 billion yuanversus 1.09 trillion yuan a year earlier.
Demand for loans has failed to pick up despite the sweeping stimulus measures Chinese authorities began unveiling last September, when the economy was on the verge of missing its full-year growth target of “around 5%”.
Goldman Sachs predicts growth in the world’s second-largest economy to slow to 4.5% this year and expects credit demand to slow further in December compared to November.
“There is still a lack of quality demand for borrowing as private companies remain cautious in approving new investment and households are also tightening their purse strings,” said Lynn Song, chief economist at ING.
For this year, the authorities have promised to make stimulating consumption a top priority and revive demand for loans with lower costs of financing companies and borrowing for households.
Investors may continue to look for “risk-free sources of yield” this year amid high levels of uncertainty amid potential tariff measures from abroad, Song said, noting that “there are still some question marks about how strong domestic policy support will be.”
There is no better alternative
The loan slowdown comes as mortgages, which previously fueled credit demand, are still bottoming out, said Andy Maynard, managing director and head of equities at China Renaissance.
Onshore Chinese investors have to contend with a lack of “assets to put money into, both in the financial and physical markets,” he added.
Official data on Thursday showed that China annual inflation in 2024 was 0.2%signaling that prices barely rose, while wholesale prices continued to fall, down 2.2%.
Institutions are increasingly bullish on government bonds on the belief that economic fundamentals will remain weak, along with faint hopes of strong political pressure, said Zong Ke, portfolio manager at Shanghai-based asset manager Wequant.
Ke said the current policy interventions are only “efforts to prevent economic collapse and mitigate external shocks” and “simply to avoid a free fall”.
‘The Perfect Storm’
The yield on the U.S. 10-year Treasury bond is rising at its fastest pace since June, and Wednesday’s jump sent the yield to a record high of 4.7%, is approaching levels last seen in April.
Widening yield differentials between Chinese and US government bonds could risk fueling capital outflows and put additional pressure on the yuan, which has been weakening against the dollar.
China’s onshore yuan hit a 16-month low against the dollar on Wednesday, while the offshore yuan has been in a multi-month slide since September.
“You have a perfect storm,” said Sam Radwan, founder of Enhance International, citing lower government bond yields, a prolonged housing crisis and the impact of rising tariffs as risk factors affecting sentiment among foreign investors with onshore assets.
While reducing the attractiveness of Chinese bonds among foreign investors, the widening yield differentials with US government bonds have little impact on the performance of Chinese government bonds due to the “small share of foreign funds,” said Winson Phoon, head of fixed income research, Maybank Investment Banking Group.
Silver lining
Falling yields offer Beijing an advantage – lower funding costs – as policymakers are expected to ramp up new bond issuance this year, ING’s Song said.
In November, Beijing unveiled a $1.4 trillion debt-swap program aimed at easing the local government’s funding crisis.
“For much of 2024, policymakers intervened every time 10-year yields hit 2%,” Song said, noting that the PBOC “quietly stopped intervention” in December.
Investors expect the central bank to announce new steps in monetary easing this year, such as further cuts in the key interest rate and the amount of cash banks must hold as reserves. At the turn of the year, The PBOC said it would cut key interest rates at an “appropriate time”.
“The Bank will enrich and improve the tools of monetary policy, carry out the purchase and sale of government bonds and pay attention to the movement of long-term yields”, according to statement on January 3.
However, the prospect of a rate cut will only keep bonds higher.
Economists from Standard Chartered Bank believe that bond growth will continue this year, but at a slower pace. The 10-year yield could fall to 1.40% at the end of 2025, they said in a note on Tuesday.
Credit growth could stabilize by mid-year as stimulus policies begin to lift certain sectors of the economy, economists say, leading to a slower decline in bond yields.
China’s central bank announced on Friday that would temporarily stop the purchase of government bonds due to excessive demand and lack of supply on the market.
