China’s shift to new policy rate signals easier funding conditions

China's central bank injected 541 billion yuan ($81.3 billion) into the banking system on Monday, formally transitioning its primary policy rate to an overnight lending rate. This shift, announced last Friday, signals a move to ease funding conditions and bolster the economy. The People's Bank of China (PBOC) stated that it would conduct overnight reverse repurchase agreements daily, replacing the previous seven-day operations with multiple rates.

The policy rate has now officially shifted to the overnight rate, with the 1.25% rate confirming the new benchmark for funding costs. Ming Ming, chief economist at CITIC Securities, noted that the change effectively lowers the floor of China's interest-rate framework by 15 basis points, reducing borrowing costs for financial institutions.

Although the move was not a conventional rate cut, it is expected to lower yields across the bond curve. Marco Sun, chief financial market analyst at MUFG (China), said the shift points short-term interest rates downward. The decision comes amid credit concerns from state-owned developer Zhuhai Huafa Group, which have unsettled the bond market and prompted policymakers to strengthen investor confidence.

Zhaopeng Xing, senior China strategist at ANZ, likened the move to a targeted 15-basis-point rate cut for financial institutions, boosting their net interest margins by about 5 basis points. The primary aim is to stabilize profitability in the financial sector and enhance its risk-absorbing capacity. Chinese regulators, including the central bank, are set to meet with financial institutions on Monday to discuss measures to support capital markets, as turbulence in stocks and bonds calls for policy support.

However, some analysts expect monetary stimulus to be delivered next year, with the transition marking a mark-to-market adjustment rather than a de facto rate cut. Citi analysts believe an LPR cut is unlikely to follow in November, with 2027 seen as the more likely window for rate cuts. Meanwhile, the PBOC previously indicated it was considering making the overnight reverse repurchase rate the main policy rate to improve the transmission of monetary policy and support economic growth.