China takes axe to interest rates to prop up growth

BEIJING (Reuters) - China slashed interest rates on Wednesday for the fourth time since mid-September, dramatically stepping up the pace of monetary easing to cushion the blow of global financial turmoil on the world's fourth-largest economy.

The People's Bank of China (PBOC) cut benchmark rates for one-year loans and deposits by 1.08 percentage points, lowering the cost of one-year borrowing to 5.58 percent and the rate on 12-month certificates of deposit to 2.52 percent.

"China is out to save itself here. The rest of Asia is strong, but all policy makers in the region and on the planet need to take their own steps. China is showing good leadership by what it has done," said Patrick Bennett, Asia foreign exchange and rates strategist with Societe Generale in Hong Kong.

The cut in the lending rate was the biggest since October 1997; that in the deposit rate was the biggest since June 1999.

The central bank also reduced the proportion of deposits that banks must hold in reserve, giving them more money to lend to businesses reeling from a drop in export demand and a downturn in the property market.

The cuts come on the heels of a 4 trillion yuan ($586 billion) stimulus package unveiled on Nov. 9 designed to ramp up investment in short order in roads, railways, affordable housing and an array of public works.

"They are continuing what is the best policy prescription in these times, which is increased fiscal spending and easier monetary policy. This is a good move," Bennett said.

European stocks .FTEU3 rose, the yen JPY= trimmed its gains and European government bonds extended their advance in response to the cut.

MORE TO COME?

The initial reaction of many economists was that borrowing costs had further to fall, especially as inflation is receding fast.

"The cuts in all rates suggest that the central bank wants to send a clear signal to the market that it will continue to ease monetary policy to bolster corporate lending amid slowing domestic and global economic growth," said Lin Chaohui, a bond analyst at Guotai Junan Securities in Shanghai.

Qu Hongbin, chief China economist with HSBC in Hong Kong, said he expected the central bank to continue to ease aggressively with another 200-250 basis points in interest rate cuts by June 2009, along with lowering banks' required reserves by a further 4 percentage points.

Like other countries, China has watched its economy slow abruptly since the bankruptcy of Lehman Brothers in mid-September opened a new, dark chapter in the financial crisis, shaking confidence and prompting banks to cut credit lines.

Li Yang, a researcher with the Chinese Academy of Social Sciences, the government's top think-tank, said the cuts showed that growth was fading faster than expected.

Industrial growth slumped last month to a seven-year low; exports, imports, retail sales and fixed-asset investment all weakened, while power generation fell 4 percent from a year earlier, the first drop in a non-holiday month for a decade.

"If the economy slows and employment problems emerge, those problems may translate into social tensions, which is the biggest concern for the Chinese government," Li said.

CUTS ACROSS THE BOARD

The cut in interest rates, which takes effect on Thursday, was four times bigger than the usual adjustment of 27 basis points.

China changes rates in increments that are divisible by nine to make it easier for lenders, which work off a 360-day banking year, to calculate interest -- a task that until recently was often done with an abacus.

The easing, which follows interest rate reductions on Oct. 29, Oct. 8 and Sept. 15, was meant to ensure sufficient liquidity in the banking system to ensure growth, the central bank said on its website (www.pbc.gov.cn).

Leaving no doubt about its intentions, the central bank also announced big cuts in banks' reserve requirements. The ratio for big banks will drop by 1 percentage point, while that for smaller banks will be cut by 2 percentage points, effective Dec. 5.

The five biggest banks will have to hold 16.0 percent of their deposits in reserve at the central bank, down from 17.0 percent. The requirement for other lenders drops to 14.0 percent from 16.0 percent.

"All my colleagues were shocked by such a big easing. It signals the government may believe the economic situation is really serious for it to call for such a drastic move," said Liu Dongliang, a currency analyst at China Merchants Bank in Shenzhen.

LINKS

> For more analyst views on rate cut............[nPEK351765]

(Additional reporting by Beijing, Shanghai and Hong Kong bureaus; Editing by Jason Subler)