Inflation fight must come first

The People's Bank of China (PBOC) announced on Feb 8 that it would raise the benchmark lending and deposit rates effective from Feb 9. The rate hike appears to be symmetric as both the benchmark 1-year lending rate and the 1-year deposit rate have been raised by 25 basic points. The PBOC also raised the demand deposit rate by 4 basic points, and aggressively raised the deposit rates of longer maturities. We think this is a de facto asymmetric rate hike, with average deposit rates rising more aggressively than market expectations.

The government and the PBOC are clearly concerned about the fact that negative real interest rates would exacerbate inflation, and the January CPI to be released around Feb 20 may look high.

It seems the PBOC has refrained from raising lending rates more aggressively partly because actual lending rates have gone up quite substantially in recent months, and the smaller move on benchmark lending rates can be seen as an effort to avoid over tightening. The other likely reason is that with the recently announced "third round" property cooling measures by the State Council, a sharp increase in long-term lending rates would be too harsh on the property market.