China's Central Bank Raises Lending, Deposit Rates (Update4)...

China's Central Bank Raises Lending, Deposit Rates (Update4)
Aug. 18 (Bloomberg) -- China raised benchmark lending and deposit rates simultaneously for the first time in two years to curb an investment boom that threatens to fan inflation and leave the nation with too many factories.

The People's Bank of China raised the one-year lending rate 27 basis points to 6.12 percent, according to a statement on the Beijing-based bank's Web site. The one-year deposit rate was increased by the same amount to 2.52 percent. Seven of 22 economists surveyed by Bloomberg News on Aug. 16 forecast China would raise borrowing costs by Sept. 30.

An April lending rate increase failed to slow the economy, which expanded 11.3 percent in the second quarter, the most in more than a decade. Failure to rein in spending could leave China with idle manufacturing plants, falling profits and rising bad loans, the World Bank says.

``The government is making it clear it's frustrated that previous measures introduced to date haven't had more of an impact,'' said Tim Condon, an economist at ING Bank NV in Singapore. ``This won't be the last measure.''

Asian currency markets open for trading gained on speculation higher interest rates will increase pressure on China's currency to strengthen. The yen rose to 115.69 per dollar, from 115.98 in New York yesterday. The Thai baht and the Singapore dollar also gained after the announcement.

Central banks in the U.S., Europe and Japan have been raising interest rates this year as fuel prices rose to records, leaving consumers with less money for purchases. U.S. economic growth halved in the second quarter from the first three months.

Officials Punished

Premier Wen Jiabao has chastised banks and local authorities for not obeying central government directives to curb expansion. Investment in factories, real estate and roads jumped about 30 percent in the first seven months.

``The economy's growth had been too rapid and the increases in loans had been too much, while the imbalance in the external trade has been prominent,'' the central bank said in the statement.

The State Council yesterday imposed the first sanctions on local leaders for ignoring polices aimed at cooling the economy, the official Xinhua News Agency reported yesterday.

Increasing the lending rate without also boosting the deposit rate, as China did in April, would make it more profitable for banks to lend, as they would earn a higher interest on loans without having to pay a higher return to depositors.

``Raising both rates is good because by maintaining the spread it doesn't increase banks' incentive to further boost lending,'' said Ha Jiming, chief economist at China International Capital Corp.

Copper Declines

Copper prices in London pared gains on concern the move might slow demand from China, the world's largest consumer of the metal. The price for three-month delivery fell about $60 a ton to $7,420 a ton immediately after the increase was announced.

Inflation, which has held below 2 percent for more than a year, may begin to accelerate, the central bank said this month. Excluding food costs, consumer prices rose 1.2 percent from a year earlier in June and July, the most since November.

The central bank raised lending rates by 27 basis points in April, the first increase in 19 months. It has since twice increased the amount of money banks must set aside as reserves, effectively reducing funds available for lending. The bank also ordered lenders to screen borrowers more carefully and stepped up bond sales to drain money from the financial system.

Some Success

Economic data for July offered some evidence that the measures are working, with both investment and factory production rising at a slower pace. Gains in property prices also cooled, an Aug. 15 report showed.

The reports prompted some analysts to pare expectations for a rate increase. Seven of 22 economists surveyed by Bloomberg News on Aug. 16 forecast China would raise the lending rate by September, down from 19 in a July 18 poll.

Still, money supply jumped 18.4 percent in July, topping the central bank's growth target for a 14th straight month as a ballooning trade surplus flooded the economy with cash. Outstanding loans were 16.3 percent higher at end of July than a year earlier, the biggest gain in two years.

The trade surplus, which tripled to a record $102 billion last year, widened more than 50 percent to $76 billion in the first seven months.

Stronger Yuan

Economists at the International Monetary Fund and the World Bank have said allowing the yuan to rise faster would help China curb its trade surplus, slowing money supply expansion. China abandoned a decade-long peg to the U.S. dollar in July 2005.

Since then, the currency has risen only 1.7 percent against the dollar. The central bank has repeatedly said it plans to gradually make yuan trading more flexible.

The yuan closed little changed at 7.9745 per dollar at 5:30 p.m. in Shanghai. The decision came with 10 minutes of interbank trading remaining and two hours after the city's currency exchange closed. Fluctuations in the yuan this week have been the biggest since the dollar peg ended.

``A stronger exchange rate dampens domestic growth and addresses the current account surplus at the same time,'' the World Bank said in its Aug. 15 report. It would also encourage investments in services rather than manufacturing, the Washington- based lender said.



To contact the reporter on this story:
Nerys Avery at [email protected]

Last Updated: August 18, 2006 07:11 EDT