China slashes one-year interest rates to help virus-hit firms

China‘s central bank cut the interest rate on its medium-term lending facility on Monday as policymakers sought to ease the pain on businesses caused by a coronavirus outbreak that has severely disrupted activity.

The move is expected to pave the way for a reduction in the country’s benchmark loan prime rate (LPR) – the rate that commercial banks charge their best customers – which will be announced on Thursday, to lower borrowing costs and ease financial strains on companies hit by the virus epidemic.

The People’s Bank of China (PBOC) said it was lowering the rate on 200 billion yuan ($28.65bn) worth of one-year medium-term lending facility (MLF) loans to financial institutions by 10 basis points (bps) – 0.10 of a percentage point – to 3.15 percent from 3.25 percent previously.

MLFs allow banks and other financial institutions to borrow from the central bank using securities as collateral.

The interest rate cut helped Chinese stock markets rally on Monday, which in turn lent support to other Asian bourses.

The central bank attributed the move to keep banking system liquidity “reasonably ample” to counter factors including the maturity of previous stimulus measures, but it did not address the specific reason for the rate move.

No MLF loans were due to mature on Monday.

Earlier this month, the PBOC unexpectedly lowered the interest rates on reverse repurchase agreements, also known as reverse repo operations, by 10 basis points as the virus outbreak escalated. In reverse repo operations, the central bank buys bonds and other securities from financial institutions and sells them back in the future at a slightly higher price. A lower reverse repo interest rate makes it cheaper for commercial banks to borrow from the central bank.

Traders and analysts said cutting the MLF rate following a similar move in the reverse repo rate would help the reduction in rates to feed through to longer-term lending.

Fresh headaches

The coronavirus outbreak has hit the Chinese economy just as it was starting to show some signs of stabilising after 2019 growth cooled to its slowest pace in nearly 30 years.

The virus has already killed more than 1,700 people and infected more than 70,000 and is yet to show convincing signs of peaking with more than 2,048 new cases reported on Monday.

Some analysts believe China‘s economy could contract in the first quarter compared with the previous three months due to the shock to business and tough public health restrictions.

With transport curbs still in place in many parts of the country, economic activity in China remains subdued, although there are reports that more factories are slowly resuming production.

“An imminent V-shaped recovery is looking less likely than a few days ago,” Capital Economics said in a note on Friday.

When compared with a year earlier, first-quarter growth could slump to 4.5 percent from 6 percent in the fourth quarter, according to the latest Reuters poll.

Most analysts expect a sharp rebound in the second quarter if the disease can be contained soon, but they warn that disruptions could continue to ripple through manufacturing and service sectors for months to come.

“The central bank will shift its focus to support firms’ mid- to long-term financing needs rather than short-term stabilisation,” Yan Se, chief economist at Founder Securities in Beijing said, noting the PBOC‘s large fund injections via reverse repo operations in the last two weeks.

He now expects a targeted reduction to bank’s reserve requirement ratio, which is the amount of cash that commercial banks must maintain with the PBOC.

Further cuts in China‘s key lending rates are widely expected in coming months to ensure a recovery takes hold. More fiscal spending is also believed to be on the cards, along with measures to boost domestic consumption.