The central bank's shift of policy focus to the overnight rate and its plan to introduce an overnight facility are driven by the fact that overnight fund transactions now account for more than 80% of interbank market turnover, said Sheng Songcheng, Research President of China Chief Economist Forum and senior advisor of CEIBS Lujiazui Institute of International Finance.

This will help reduce funding volatility caused by government bond issuance and trading, which have become key variables affecting interbank liquidity, he said in an interview. (See MNL INTERVIEW: Yuan In Steady Upward Trend - Sheng Songcheng)

This week, the PBOC officially launched the overnight reverse repo facility in its open market operations, with injections of CNY300 billion on Monday and CNY600 billion on Tuesday, though it refrained from disclosing the facility's interest rate.

The experience of Western countries shows that stablishing a price-based monetary policy framework centred on interest rates requires relatively low reserve requirements for banks, said Sheng, a former head of the statistics department at the PBOC.

At 6.2% in weighted average terms, China's financial institutions still face high reserve requirements, Sheng said, adding that the central bank could cut these requirements this year, particularly given limited scope to boost the economy with interest rate cuts.

Lowering interest rates reduces savers' interest income while making little difference to companies' investment plans, which depend more on potential risks and returns, he noted. Rate cuts would also hit banks already struggling with squeezed interest margins and facing significant deposit outflows. Some CNY65 trillion in resident deposits mature this year, according to Sheng's estimation based on financial reports by listed banks. There were CNY167 trillion of total household deposits at the end of 2025, and the share of maturing time deposits is about 39%, he said.

BOOST FROM RRR CUTS

Meanwhile, each 0.5-percentage-point cut in reserve requirements can supply about CNY1 trillion in liquidity to an economy which Sheng said is undergoing a rocky transition from old to new growth drivers. While exports have shown resilience, growth in investment and consumption slowed significantly in the second quarter, with investment in the traditional real estate and manufacturing sectors a major drag, even as the boost to consumption from trade-in policies h a s weakened a n d subsidies for new energy vehicles have been tapered.

Pressure on growth is likely to increase over the rest of the year, Sheng said, though he added that it will be increasingly be driven by new industries, noting that from January to May, investment in intellectual property products grew 9.3% year-on-year.

In order to maintain momentum, authorities urgently need to accelerate implementation of policies aimed at promoting urban renewal, upgrading infrastructure and improving social welfare, he said. China needs to stabilise its property market in a bid to ensure stable employment and increase residents' income in order to restore confidence and unleash domestic demand, he said.(See MNI INTERVIEW2: Chinese Economist Suggests QE To Boost Demand)

LOAN GROWTH

Some commentators have pointed to low loan growth as indicative of broader weakness, but Sheng pointed out that much of this reflects a shift in corporate financing from bank credit to the bond market. Bond and equity financing together accounted for 4 7 % of aggregate financing to the real economy in 2025, exceeding loans, at 45%, for the first time, noted Sheng, who led the introduction of the AFRE metric when he worked at the PBOC.

AFRE data also show that incremental financing in China's central and western regions has been on the rise, while their share of national GDP has increased, indicating that financial resources are tilting towards the regions, Sheng said.

Source | MNI

Author: Sheng Songcheng, Research President of China Chief Economist Forum and senior advisor of CEIBS Lujiazui Institute of International Finance