20 October 2010
Stocks in Hong Kong and Japan fell and the U.S. dollar rose a day after China raised interest rates for the first time since December 2007. Economists interpret the move as a sign that authorities are taking a more aggressive stance against inflation and bank lending.
Chinese borrowers will now have to pay at least 0.25 percentage points more interest on their loans. China's central bank increased the cost of borrowing late Tuesday, ahead of releasing inflation figures for September.
Higher inflation rate
Market analysts expect the inflation rate to be higher than the 3.5 percent recorded in August – already the fastest pace in nearly two years. They think China hopes higher rates will cool price increases.
Jan Lambregts, global head of financial markets research at Rabobank, says the central bank is also trying to slow lending.
"Chinese policy makers are very unhappy about bank lending and they want to curb that more.... It's really a warning shot, to those banks – 'curb your bank lending, we're serious,'" Lambregts said.
Credit boom
For the first nine months of the year, bank lending reached $948 billion – just 19 percent shy of the government's target for the year. The credit boom has sparked a surge in property prices nationwide.
Last week, the central bank asked six major banks to raise the ratio of deposits they hold as reserves, which reduces the amount available for lending.
With the increase, the one-year lending rate now stands at 5.56 percent, while the deposit rate climbs to 2.5 percent. China had not moved its interest rates in nearly three years.
On Wednesday, stock prices in Hong Kong declined just under 1 percent, led by property companies. Japan's Nikkei index fell by 1.6 percent. But Shanghai managed to claw back losses earlier in the day. And in Seoul and Taipei, main stock indexes closed higher.
Investment money
A flow of investment money from developed economies seeking higher returns could complicate China's efforts to slow its economy. The problem could worsen if the U.S. Federal Reserve increases the amount of money in circulation in the coming weeks to stimulate the American economy.
Strong foreign investment flows may boost China's currency. A stronger yuan would make imported commodities cheaper, helping manage inflation. Lambregts says expectations of more rate increases could have an influence on the exchange rate.
"I think we should take a broader view, that in terms of hot money inflow, any prospect of further tightening on the monetary front only increases the feeling that you should be in China," he added.
The yuan's exchange rate is tightly managed by the central bank, although it has risen 2.5 percent against the dollar since June. But on Wednesday, the dollar recorded its biggest gain against the yuan since June, after the Chinese central bank sharply lowered the reference rate for yuan movements.