Hiccups in the Repo Market

After months of stability, China’s short-term money market rates are rising slightly, and the long rally in bond prices has paused. Changes in monetary easing expectations amidst continued capital outflows have tightened liquidity conditions and induced more market participants to hoard cash. Chinese authorities have made noise about limiting risks from some of the leveraged positions among non-bank financial institutions, and markets fear policy makers may be starting to deliver on those threats.

Stability in China’s money markets depends upon market perceptions of implicit PBOC commitments to maintain low and stable short-term rates. As a result, policy-related risks are highly asymmetric, and could be consequential for asset markets boosted by the leveraged borrowing of non-bank financial institutions, such as the corporate bond market. The current level of liquidity stress is minor, but additional pressure from Chinese authorities pushing up short-term rates may produce more volatility in asset markets than the PBOC intends.

Posted August 1, 2017
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