Trade war forces China to defend economy

The People’s Bank of China on Friday announced plans to cut to its reserve requirement ratio in an effort ignite a slowing economy that has been hurt by the trade war.

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The 50-basis point cut, which will take place on Sept. 16, is designed to lower borrowing costs and release 900 billion Chinese yuan into the economy.

“The PBOC claims the cut is partly intended to keep liquidity conditions loose during the forthcoming tax season,” wrote Julian Evans-Pritchard, senior China economist for the London-based Capital Economics.

“But that could easily be achieved with less high profile and aggressive policy tools. Instead, we think the PBOC’s other stated goal – to lower borrowing costs for firms – is a more important driver of the move.”

Lowering borrowing costs is an important step for Beijing to take as it looks to inject liquidity into an economy that is growing at its slowest pace since 1992. The Chinese economy grew at a 6.2 percent rate in the second quarter, impacted by the more than yearlong trade war Beijing and Washington.

The tit-for-tat trade war has seen the U.S. slap tariffs on more than $350 billion of Chinese goods and China tax $185 billion of U.S. products. It has caused both foreign and local companies to divert production from China and establish new supply chains in other countries.

On Wednesday, China’s Ministry of Commerce announced the two sides will meet in Washington in October to work toward a trade deal. But many on Wall Street think a deal is far off on the horizon and that an elusive deal will take a toll on the Chinese economy.

A team of Hong Kong-based economists at Bank of America Merrill Lynch predicts tariffs will remain in place until the end of 2020, causing China’s economic growth to slow to 5.7 percent.

“With more extensive and higher US tariffs activated, we expect stiffer headwind on Chinese exports, which will likely thwart capex demand further and become the catalyst for policy turnaround,” they wrote.

A team of Hong Kong-based analysts at Barclays agreed. They say Beijing won’t take a more aggressive policy stance until further pressure is put on the Chinese economy.

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“We think China is saving more aggressive action (eg, raising LG special bonds quota in Q4, and cutting policy rates aggressively) should further downward pressure – eg from escalation of trade tension or a slowing global economy – on growth materialize,” they wrote.