With the loan prime rate (LPR) remaining unchanged this week, the question of why the PBOC is not easing monetary policy more aggressively in the face of a weakening economy is now central to the near-term outlook for assets within Chinese financial markets. This note argues that concerns about credit flowing to the property sector are critical to understand the PBOC’s reluctance to cut rates despite softening cyclical momentum, but this policy stance is also unsustainable. Given building deflationary pressures, the central bank will need to act more decisively by cutting banks’ funding costs, including adjustments to the MLF and OMO rates. Consequently, longer-term bond yields are more likely to fall than rise from current levels over the next two quarters.
