On Tuesday, China announced its largest-ever reduction in the benchmark mortgage rate. Authorities took this step to support the country’s struggling property market and economy.
The 25-basis-point cut in the five-year loan prime rate (LPR) marked the largest reduction since the reference rate was introduced in 2019. This significant adjustment far exceeded analysts’ expectations.
“This is the biggest signal. In other words, the largest interest rate cut cycle in history has begun,” said Yan Yuejin, analyst at E-House China Research and Development Institution. He said the cut will have a direct impact on the real estate sector by lowering mortgage rates.
The five-year loan prime rate (LPR) dropped by 25 basis points to 3.95% from its previous level of 4.20%. Meanwhile, the one-year LPR held steady at 3.45%.
In China, the majority of new and outstanding loans rely on the one-year LPR. Meanwhile, the five-year rate plays a crucial role in influencing mortgage pricing.
A Reuters poll of 27 market watchers conducted this week found that 25 expected a reduction in the five-year LPR. They expected a cut of five to 15 basis points.
The deeper-than-expected cut indicates a shift in Beijing’s concern levels. It suggests that Beijing is no longer as worried about the negative effects of lower lending rates on the currency or banks as it was last year.
A central bank-backed newspaper reported on Tuesday that the benchmark mortgage rate cut would have no negative impact on banks’ net interest margins.
Simultaneously, Beijing was able to offer supplementary monetary policy support due to diminished spillover effects from other major economies. Notably, the United States, where the Federal Reserve is anticipated to cut interest rates, played a key role in reducing these spillover effects. This enabled Beijing to respond proactively to economic dynamics.
Still, authorities are likely to be wary of yuan pressure from lower domestic interest rates.
Following the LPR announcement, the Chinese currency fell to its lowest level since November 20 before recovering.
Reuters reports that China’s major state-owned banks actively intervened in the market by selling dollars for yuan. This move was undertaken as an effort to curb the weakness in the currency.
The real estate and banking sectors experienced a rise in the stock market. However, the interest rate decision failed to boost overall investor confidence.
China last reduced its five-year LPR by 10 basis points in June 2023.
Beijing has escalated efforts to rescue the ailing property sector. However, these measures have been implemented in fits and starts, exerting significant pressure on a sector that constitutes a quarter of the economy and the stock market. In 2023, new home prices fell the most in nine years, while the stock market (.SSEC) fell to five-year lows.
Government-backed media reported last week that state banks, under the “white list” mechanism, increased lending to residential projects. This initiative aims to inject liquidity into the crisis-hit sector.
Most analysts and investors await additional measures to enhance consumption and stabilize property prices. Their expectations have increased as authorities recently replaced the chairman of the market regulator just before the Lunar New Year holiday. This change has heightened optimism for proactive steps to address economic concerns.
“I think this move is more signal than substance,” said Ben Bennett, Asia-Pacific investment strategist at Legal and General Investment Management in Hong Kong. “Most people aren’t buying houses because mortgage costs are too high, they’re worried about developers going bankrupt and house prices falling.”
“But it does signal a determination to support the housing market. We need to see if this is followed up with more cash injections into lenders, housing projects and developers.”
More easing could follow. Recent deposit rate cuts and bank reserve reductions are allowing commercial banks to lower borrowing costs to support the economy.
The new mortgage reference rate takes immediate effect. However, existing mortgage holders will experience no reduction in loan repayments until next year. This delay is because mortgage rate repricing occurs on a yearly basis.
The LPR, determined by 20 designated commercial banks, is the rate that banks typically charge their best clients. These banks submit proposed rates to the central bank each month.
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