China Takes A Big Step To Spur Economic Growth
Economics / China Economy Jun 30, 2015 - 01:16 PM GMTBy: AnyOption
After a strong end of last year for Chinese markets, there was a bit of a reversal in the first quarter of 2015; and it has caught the attention of Chinese monetary policy makers. In an effort to spur economic growth, the People's Bank of China has made big changes to monetary policy in the country. Today, we'll talk about what those changes are and how they're likely to help, as well as what we can expect to see from China's markets moving forward. So, let's get right to it.
The People's Bank Of China Makes Big Monetary Policy Changes
On Saturday, the People's Bank of China made a big announcement. They've made two key changes to monetary policy in the country. The first of the changes was cutting both one-year lending and deposit rates by 0.25%. The second is reducing the amount of cash that large banks must keep on reserves by 0.50%. Here's how these changes are likely to spur growth throughout the country...
- Lower Rates – Central banks reducing interest rates are nothing new to the average economist. As a matter of fact, this has happened time and time again around the world. For example, during the depths of the financial crisis of 2008 and 2009, the United States Federal Reserve reduced its interest rate to a record low 0.25% in an effort to spur economic growth. The way this helps the economy is relatively simple to understand. One of the leading factors in the growth of any economy is consumer spending. By reducing interest rates, central banks effectively reduce the amount of money the end consumer has to pay in order to borrow money. As a result, the excess funds are available for spending; leading to strong economic growth.
- Bank Reserve Reductions – Many governments require major banks to hold a certain percentage of their assets in liquid cash. The practice ensures that in times of tough economic times, banks will have the money needed to pay back loans and allow consumers to withdrawal their funds. However, this practice can have a negative impact on economic growth. After all, with massive amounts of money in cash that simply can't be used, banks have less funds available for consumer and business loans. Therefore, by reducing the amount of money that Chinese banks are required to have on hand, the People's Bank of China helps to free more money up for lending; ultimately causing economic growth to improve.
Will These Changes Be Enough?
There's no doubt that the Chinese economy needs help with regard to growth. After all, just look at the market performance from the country last week. On Friday, the Shanghai Composite index fell by 7.4% and the tech heavy Shenzehen Composite fell by 7.9%. Now the big question is, “Will the monetary policy shift made by the People's Bank of China be enough to spur growth?” In my opinion, the answer is yes; at least in the short term. However, monetary policies like this are only short term; so, the country's economic growth will need to stabilize on its own to an extent as well.
For a great example of this, look at the United States and the low interest rates that were put in place years ago. The low interest rates definitely helped to push the United States into the bull market. However, as we get closer and closer to interest rates being increased to normal, the markets are running into more problems. With that said, I do expect low interest rates and more loan funding availability to cause improvements in the Chinese economy. However, when this stimulus goes away, the country's economy may fall back to what we've seen over the last 6 months or so; that is, if other underlying economic factors don't seem to improve beyond the allowance of new stimulus.
What Do You Think?
Do you think that the stimulus put in place by the People's Bank of China will have long-lasting positive effects or do you think that the reduced rates and higher loan availability are more of a band aid for the economic wounds the country is dealing with at the moment? Let us know your opinion in the comments below!
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