(Yicai Global) June 28 -- China does not have the macroeconomic conditions and foundations for sustained interest rate cuts. Further cuts in the short term would have a limited effect on stimulating consumption and investment because economic expectations have not materially improved, risk appetite has weakened, and asset prices are depressed.

Since the second quarter of this year, some economic indicators have been weaker than expected, reflecting China’s still uneven economic recovery. After the People’s Bank of China lowered the benchmark loan prime rate this month, some interpreted the move to mean that the policy rate is beginning to pivot lower. But would further cuts in the short term really be able to effectively lift consumption and investment?

Interest rates directly influence the demand for money, including the savings needs of residents and the funding needs of enterprises, which in turn affect consumption and investment.

During economic upswings, enterprises’ return on capital is relatively higher, so they are more willing to invest and finance, and their fundraising needs are sensitive to interest rates. During an economic downturn, firms have a relatively lower ROC, so they are less willing to invest and finance, and their fundraising needs are not interest rate sensitive.

Banks’ deposit rates, including that of wealth management products, have started to fall, and consumption has slowed significantly post-pandemic. The co-existence of falling interest rates and slow consumption means that it will likely be hard to boost consumption simply by lowering deposit rates.

Moreover, sluggish consumption will also weigh on corporate investment, which will lead to sluggish employment, incomes, and consumption, and that will eventually spill over into aggregate demand.

Market expectations on the direction of interest rates will also affect the elasticity of rates. During the economic downturn, the PBOC’s interest rate tools will be restricted by the ‘zero interest rate lower limit’ policy, meaning no negative rates. Based on such expectations, market entities are concerned about raising consumption and investment, resulting in a slow economic recovery.

So taking into account the social and economic environments, as well as that related to people’s livelihoods, China does not boast the macroeconomic conditions and foundations for sustained interest rate cuts.

(Sheng Songcheng is the dean of the China Chief Economist Forum Institute and the former director general of the Department of Statistics & Research at the People’s Bank of China. He Yuling is a scholar who won last year’s Shanghai Super Post-doctoral Incentive.) 

Editor: Futura Costaglione