China slashes vital interest rates to bolster struggling economy

On Monday, China's central bank unexpectedly lowered the critical short-term interest and reference loan rates. This is another step by the authorities to support the world's second-largest economy, which faces various challenges.

China unexpectedly reduced some interest rates. On Monday, the People's Bank of China (PBoC) announced a 10-basis-point cut in the seven-day repo rate from 1.8% to 1.7%, the first such decision in almost a year. Simultaneously, the central bank reduced the one-year loan prime rate (LPR) from 3.45% to 3.35% and the five-year LPR from 3.95% to 3.85%. These decisions surprised financial markets, which didn't expect such swift actions from the monetary authorities.

The interest rate cuts come after the publication of weaker-than-expected economic data for the second quarter and a recent plenum of the Communist Party of China, which occurs approximately every five years.

Experts from PKO BP commented on the decision. They highlighted that the Chinese central bank's communication states that the cut aims to optimize the open market operation mechanism and increase support for the economy.

They also cited the latest economic data—last week, GDP data indicated that in the second quarter of 2024, the Chinese economy grew by 4.7% year over year, compared to expectations of 5.1% year over year and 5.3% year over year in the previous quarter.

China currently faces a range of economic challenges. The country is balancing on the brink of deflation and grappling with an ongoing real estate market crisis. Concerns are also rising due to increasing debt and weak consumer and business sentiment.

According to experts, the Federal Reserve's start of an interest rate cuts cycle also gave the PBoC maneuvering room to ease policy. This is important because the marked difference in yields between China and the United States puts pressure on the yuan.

The decision to cut interest rates triggered immediate reactions in financial markets. The yuan's exchange rate dropped to its lowest level in almost two weeks at 7.27 per dollar, although it later recovered some losses.

The yields on Chinese government bonds fell, with the 10-year and 30-year bonds dropping by as much as 3 basis points before stabilizing at 2.24% and 2.45%, respectively, according to experts cited by Reuters.