New bank loans in China hit 620 billion yuan in May, which was below the expected 850 billion. This follows a nine-month low recorded in April. Year-on-year loan growth dropped to a record low of 7.1%, down from 7.2% in April. Household loans rose slightly by 54 billion yuan in May, but demand for corporate loans weakened further.

broad M2 money supply

The broad M2 money supply increased by 7.9% year-on-year, falling short of the expected 8.1% and down from 8.0% in April. Total social financing (TSF) growth remained steady at 8.7%, primarily due to more government bond issuances. Ongoing deflation and high real borrowing costs seem to be dampening private credit demand, despite some easing from the central bank. Analysts at Capital Economics anticipate further rate cuts of up to 40 basis points this year. The People’s Bank of China (PBOC) plans to add funds via reverse repos for the second time this month. This article highlights a slowdown in credit growth in China, showing a reduced interest in borrowing despite minor actions from the central bank. The figures indicate a disappointing rise in new loans during May—only reaching 620 billion yuan compared to the forecast of 850 billion. This suggests banks are lending less and that both businesses and households lack eagerness to borrow, even with credit available. The situation is reflected in the sluggish year-on-year loan growth, which has dipped to 7.1% from the already low 7.2% in April. Household loans saw a tiny increase of 54 billion yuan, while businesses indicate a clear reluctance to borrow. A major cause of this hesitation is the high cost of borrowing when adjusted for inflation, which is being pushed down by deflation. This means that even if nominal interest rates are low, real rates stay high when prices are stagnant or falling, discouraging debt-driven expansion. Monetarily, the broader M2 money supply grew less than expected, also declining from the previous month. This trend reflects a similar issue—money circulation in the economy is slowing. While total social financing stayed stable, this was not due to an increase in borrowing demand from businesses or households, but rather due to government bond activities. In summary, the government continues to borrow and spend, while the private sector pulls back. This backdrop sets the stage for potential policy adjustments.

implications of cooling credit

Zichun Huang from Capital Economics expects further easing, predicting up to 40 basis points in rate cuts later this year. In response, the central bank has stepped in again with reverse repos to increase liquidity in the market. This shows their intent to enhance the short-term money supply to stimulate more lending. We are closely monitoring disinflation risks, changes in the M2 trend, and policy measures like open market operations as they significantly impact rate-sensitive strategies. It becomes challenging to position for growth when loan growth declines alongside private demand. If the central bank goes ahead with rate cuts and liquidity boosts, we might see yield compression. Funding rates could remain stable or even drop, which might lower implied rates as well. This gives us an opportunity. Higher chances for layered rate adjustments bolster the directional bias in short-term interest rate markets. We expect shifts in the term structure to reflect this cooling credit cycle, suggesting that positioning for curve steepening while keeping a neutral stance further out could be advantageous. With new lending below expectations, especially after a weak April, current trends are likely part of an overall cooling phase rather than a one-time event. Keeping an eye on reverse repo activity, the pace of government bond issuance, and changes in the PBOC’s MLF activities will help refine our rate expectations. The movement of spreads between instruments linked to government policy and those tied to corporate credit may provide entry points during this quiet issuance period. Additionally, the market appears less volatile than in the past, making short-term repricing events more reflective of fundamental credit data instead of random spikes in uncertainty. Therefore, it’s wise to compare new loan and M2 figures alongside inflation data and repo rates in the upcoming sessions. Adopting a patient approach based on balance sheet conditions may offer steadier returns during this phase. Create your live VT Markets account and start trading now.

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