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FINANCIAL SYSTEM IN CRISIS

China cuts interest rate

The move is an effort to spark growth in an economy slowed by the turmoil in the financial markets.

September 16, 2008|Don Lee | Times Staff Writer

SHANGHAI — In an abrupt change of course, China's central bank said Monday that it would cut a key interest rate in an effort to stimulate growth and shore up confidence in an economy that is slowing amid the global financial market turbulence.

The move by the People's Bank of China to cut its benchmark one-year bank lending rate by 0.27 percentage point to 7.2% was its first rate cut in six years. The bank also reduced required reserves for most banks by 1 percentage point to 16.5%.

Over the last year in particular, the central bank had been preoccupied with curbing inflation and had aggressively tightened credit by repeatedly hiking interest rates as well as required bank reserves.

But in recent months, growth in Chinese exports has weakened and the nation's stock and property markets have fallen sharply. What's more, there has been a spate of troubling news from Wall Street, which continues to reel from the subprime lending fiasco. Only a week after mortgage giants Fannie Mae and Freddie Mac were seized by the U.S. government, people here Monday were absorbing reports of Lehman Bros. Holdings Inc.'s bankruptcy plans and Merrill Lynch & Co.'s sudden sale to Bank of America Corp.

"America's recent problems are, for sure, one of the main reasons that the central bank chose this timing to release the policy, to lower the risks from the global economy," said Zhou Maoqing, an international finance researcher at the Chinese Academy of Social Sciences in Beijing.

China is the fourth-largest economy in the world, and it has taken on greater significance this year as the U.S., European and Japanese economies have slumped. China's economy expanded nearly 12% last year but slowed to an annualized rate of 10.1% in the second quarter.

As consumer inflation seemed to be easing this summer, China's central government had indicated that it would shift its focus from tightening credit to spurring growth and preserving jobs. Many analysts, however, were not expecting a move this fast.

A batch of economic data last week indicated that China's industrial production moderated in August, as did imports, possibly from slowing demand from factories coping with fewer orders from the U.S. Chinese consumers also appeared to be shying away from buying luxury goods and big-ticket items such as cars.

Passenger vehicle sales in China fell more than 5% in August compared with a year earlier, marking the first monthly drop in more than three years, according to carmakers and a trade group. China had been accustomed to 20%-plus annual growth in car sales, but the rate has been slowing since April.

"The slowdown appears genuine," said Michael Dunne, the Shanghai-based managing director of J.D. Power's China operations. "Confidence is wavering. Showroom traffic is down."

Part of that is coming from the steep slide in China's stock markets. The Shanghai composite stock index fell an additional 5.6% last week and is now down 66% from its peak in October 2007.

The Shanghai and Shenzhen markets were closed Monday for a national holiday, as were those in Japan, South Korea and Hong Kong. But in reaction to reports about Merrill and Lehman, Taiwan's main stock index fell 4.1% and India's by 5.6%. Asian markets could be set for a big hit today after the Dow Jones industrial average's 500-point fall Monday.

China also is struggling with its real estate market, and it has become an increasing concern to urban consumers. In some cities along the coast, property prices surged 50% to 100% last year, but have tumbled 20% to 25% this year amid a plunge in sales, said Remy Chan, the Shanghai-based Asia Pacific director for real estate firm Jones Lang LaSalle.

A key reason, Chan said, is that the central government's tightening credit policies last year squeezed developers, prompting them to drastically lower prices to increase cash flow.

"The public at large would not flock back until they know they are at the trough of the market," Chan said. "But who knows where the trough is? Look at the stock market."

Zhou, the economist, said the central bank's move to cut the benchmark one-year bank lending rate was in itself of "trifling importance," as was the bank's accompanying step to reduce required reserves for most banks.

But he and other analysts said the move was symbolically important and would probably be followed by additional interest rate reductions or steps such as tax cuts in the coming months.

"Monday's monetary policy action should serve to mitigate negative sentiment in the domestic market amid a severe downturn in global equity markets," said Jing Ulrich, chairman of China equities at JPMorgan Securities in Hong Kong.

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don.lee@latimes.com

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