What to expect from Chinese monetary policy in 2025
China's top analysts expect Beijing to push for greater consumption and infrastructure investment to deal with Trump.
Our briefing on critical economic and financial developments in China as of Friday, 3 January, 2025:
The outlook for Chinese monetary policy in 2025 - further cuts to the reserve ratio and policy rates, alongside greater use of structured instruments to channel credit to where policymakers want it to go.
China’s top analysts expect Beijing to push for greater consumption and infrastructure investment this year, to offset any strains in Sino-US trade relations under Trump. Government debt is set to spike as a consequence.
What to expect from Chinese monetary policy in 2025
The Chinese central bank is set to become increasingly dovish in 2025, after Beijing recently called for "moderately loose" monetary policy for the first time in fourteen years, in order to deal with underwhelming economic growth as well as a potentially more adversarial Trump administration.
Here's what Wen Bin (温彬), chief economist at China Minsheng Bank, expects from Chinese monetary policy and interest rates in 2025
Consumption is the key mission
China's push to increase domestic consumption and its plans for highly active fiscal policy are the key drivers behind the loosening of monetary policy.
Wen writes that when the opportunity arises, the Chinese central bank (PBOC) will reduce official interest rates in 2025, as well as cut the required reserve ratio to unleash greater liquidity.
Wen believes further rate cuts by China are "a definite necessity" in 2025, given:
Weak real demand for financing in the Chinese economy, leading to lacklustre credit growth.
Weak price growth and a negative GDP deflator.
High real interest rates, despite ongoing declines in nominal rates.
Space for adjustments is shrinking
In spite of this urgency, the Chinese central bank could have narrowing space to make interest rate and reserve ratio cuts in 2025.
Reserve ratio reductions have already unleashed 2 trillion yuan in liquidity in 2024.
Wen points out that the ratio is "rapidly closing in on the consensus floor of 5%," leaving PBOC with less room to maneuver.
As a result of these limitations, Wen expects PBOC to only make adjustments in response to opportunities created by changes in the global economy and China's own domestic conditions.
Chinese interest rate cuts could also be restricted by exchange rate and bank profitability considerations.
Interest rate cuts could weaken the Chinese yuan by reducing yields on yuan-denominated assets relative to those in other currencies.
They could also undermine the profitability of banks by putting greater pressure on net interest margins, which have long been constricted.
The net interest margins of China's tier-1 and municipal banks stood at under 1.5 percentage points for three consecutive quarters of 2024.
Central bank will resort to unconventional measures
As result of the above limitations, PBOC will use other tools to achieve its objectives in addition to interest rate and reserve ratio cuts.
These include:
Outright trading of Chinese treasuries.
Outright reverse repos.
Structured monetary policy tools, that channel credit to specific parts of the economy.
The central bank's purchase of Chinese long-term treasuries will also help with expansive fiscal policy, by bolstering the market for government debt.
Role of structured monetary policy will expand in 2025
PBOC will use these tools to channel funds to designated areas of the Chinese economy deemed to be of priority by top policymakers.
These will include science and tech, the green sector, the still-ailing property market as well as the stock market, which Beijing wants to see play a greater role in financing real economic activity.
Structured monetary policy tools already came into major play in 2024, with an outstanding balance of 6.66 trillion (approx. USD$910 billion) yuan as of the end of September.
Wen sees further room for cuts to these instruments amidst broader declines in China's interest rate environment.
Interest rates to fall across the board as transmission effects improve
Wen expects monetary policy reforms by the central bank to better drive the transmission and guidance of its interest rate adjustments.
The comparative scarcity of high-yield assets in China will also play a role in driving down longer-term market rates, given institutional investors still have limited options at their disposal.
While rates on loan interbank CDs will continue to decline next year, Wen also expects the scope of decline to narrow due to the aforementioned squeeze on the net interest margins of Chinese banks.
What China’s top economists expect from fiscal policy in 2025
China will boost domestic consumption, fiscal stimulus and government debt to keep the economy afloat in 2025, according to the country’s leading analysts.
Beijing hopes this will offset worsening trade relations under a Trump presidency, that could weigh heavily on China’s exports to advanced economies.
Consumption and infrastructure investment are “bright spots”
The key mission outlined by China’s Central Economic Work Conference held in December was “vigorously spurring consumption, raising the returns of investment and comprehensively expanding domestic demand.”
Li Xunlei (李迅雷), chief economist with Zhongtai International, said this signals further “quantitative increase” policies on both the consumption and investment fronts, in order to deal with “external uncertainties.”
He expects public consumption and infrastructure development to be the two brights spots for the economy in 2025.
“Fiscal policy should play an active role in dealing with changes in the external environment,” Li said to Securities Daily.
“The economy needs to focus on expanding domestic demand with further vigour...vigorously spurring consumption as well as appropriately increasing infrastructure investment are both key means for expanding domestic demand.”
Zhao Wei (赵伟), chief economist with state-owned brokerage Shenwen Hongyuan, expects this to result in investment and consumption growth that is slightly higher in 2025 compared to last year.
“Investment and consumption, which are the beneficiaries of policy support, are likely to be the economic bright spots,” Zhao said.
He sees China’s GDP growth remaining at around 5% in 2025.
Fiscal policy to focus on improvements to living standards
Analysts from China International Capital Corporation (CICC) expect Beijing to use fiscal policy that “directly affects living standards” to spur domestic consumption in 2025, as a firm counterbalance to declining exports.
“Money must pass through intermediary institutions in order to then reach end demand, but fiscal policy which directly affects living standards bypasses intermediaries, and has greater counter-cyclical strength,” they said.
“Especially when trade frictions and uncertainties are high, and export prices face downward pressure, the importance of fiscal expansion for spurring domestic demand is even more pronounced.”
China’s government debt set to spike
The immediate consequence of such efforts to drive domestic demand via fiscal stimulus will be a rise in deficit spending and government debt levels.
Wang Qing (王青), chief macro-analyst with Golden Credit Ratings, points out that the Central Economic Work Conference called for “the one raising and the two increases” (一个提高、两个增加) in order to support “even more active fiscal policy.”
This refers to “raising the deficit ratio, increasing the issuance of ultra-long-term special government bonds, and increasing the issuance and usage of local government special bonds.”
Wang forecasts that the new government debt quota for 2025 could reach 15.4 trillion yuan - significantly higher than the figure for last year, and that the target fiscal deficit ratio will rise from 3.0% to around 4.0% in 2025, for an increase in fiscal expenditures of approximately 1.3 trillion yuan.
Wang also expects new local government special bond issues to increase to around 6.5 trillion yuan from 3.9 trillion yuan in 2024 - including issues to resolve hidden debt.
Special government bond issues in 2025 are set to reach 1 trillion yuan - to support supplementation of the tier-one capital of the big state-owned banks.
Ultra-long-term special government bond issues could rise from 1 trillion yuan in 2024 to between 1.5 to 2 trillion yuan this year.
This will help to support increases in quotas for the “Two New” (两新) policies (being policies for the upgrade of capital equipment and cash-for-clunkers consumer subsidies) from 300 billion yuan in 2024 to around 600 billion yuan this year.