BEIJING — The Chinese central bank halted its government bond purchases Friday in an attempt to slow a one-way bonds trade that’s put unwanted downward pressure on the yuan, analysts said.
China’s 10-year bond yield plunged to a record low this month, while the Chinese currency traded in Hong Kong on Wednesday hit its weakest against the U.S. dollar in more than a year.
The People’s Bank of China is “trying to cool down the market by suspending gov[ernment] bond buying,” said Larry Hu, chief China economist at Macquarie.
The decision “suggests that the PBOC is concerned about the recent rapid decline in bond yields, as it will increase CNY depreciation pressure now and SVB-style financial risk in the future,” Hu said, referring to the major U.S. bank failure in 2023 that was largely blamed on shifts in capital allocation due to aggressive Federal Reserve rate hikes.
The PBOC announced before the market open Friday it was halting its government bond purchases.
The PBOC’s bond buying program didn’t really begin until last year. PBOC Governor Pan Gongsheng said in a high-profile speech in June that the central bank would gradually add buying and selling government bonds on the secondary market to its monetary policy toolbox.
“The PBOC may be attempting to signal to all market participants that rates have come down too low and too fast,” said Peter Alexander, founder of Shanghai-based consulting firm Z-Ben Advisors. “Their stepping away should lead to a rise in rates at least for the short term.”
“The immediate impact has been a small move of yields higher. However, we expect this impact to be relatively short-lived if the PBOC is only pausing rather than defending a specific yield target like they did last year; the factors driving bond yields lower such as weak market confidence leading to heavy demand for safe sources of yield remain in place,” said Lynn Song, chief economist at LNG.
Limiting stimulus
China is also dealing with slower economic growth at home. The country stepped up rate cuts and other support in late September, following the U.S. Fed’s shift toward easier monetary policy.
The drop in bond yields reduced the extent to which the PBOC could further cut interest rates in case it needed to stimulate the economy further, said Zong Ke, portfolio manager at Shanghai-based asset manager Wequant.
He said the PBOC’s sudden halt was also meant to warn investors against speculatively piling into the bond rally, exacerbating the drop in yields.
The PBOC attributed its decision to a shortage of bonds, and said it would resume purchases when the supply-demand balance changed.
Capital outflows
Zhiwei Zhang, president and chief economist at Pinpoint Asset Management, noted that the gap between government bond yields in China and the U.S. has widened, putting pressure on the yuan exchange rate.
Compared with the U.S. Treasury 10-year bond yield of 4.68%, the yield on the Chinese government 10-year bond is around 1.64%. That gap is even wider than it was in August, when worries about the falling Chinese yield intensified.
A stronger dollar and higher U.S. Treasury yield make U.S.-denominated assets relatively more attractive to international investors — theoretically supporting capital outflows. The greenback has climbed on expectations of continued U.S. economic resiliency.
“The unusually high demand for bonds is also likely being driven by in part by growing expectations of a big stimulus in 2025 to address weak consumption and battle deflationary pressures,” said Brian Tycangco, an analyst at Stansberry Research.
“Unfortunately, suspending buying of bonds will reduce the transparency of pricing in the domestic bond market, making it a little more difficult for market participants to execute orders,” he said.
After the PBOC announcement, the yield on China’s 10-year government was little changed as of Friday afternoon. Mainland and Hong Kong stocks traded mildly lower.
Supporting the yuan
China has also recently ramped up efforts to support the yuan by issuing bills in the Hong Kong market. The PBOC will auction 60 billion yuan in six-month bills in Hong Kong on Jan. 15, the Hong Kong Monetary Authority said Thursday.
Taken together with Friday’s bond buying suspension, the PBOC is trying to use a basket of tools to signal yuan stability and support a gradual decline in yields, said Zong Liang, chief researcher at the Bank of China.
The Chinese yuan traded in Hong Kong strengthened slightly on Friday.
Haizhong Chang, executive director of corporates at Fitch Bohua, expects the PBOC’s move can help push yields of longer-term bonds “back to a reasonable level, and also help stabilize the RMB exchange rate.”
— CNBC’s Anniek Bao and Ying Shan Lee contributed to this report.
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