China's banks warned to be prudent in setting interest rates

A staff member walks in front of the headquarters of the People's Bank of China (PBOC) in Beijing on Tuesday, June 25, 2013. Chinese banks took control of setting lending rates on Saturday, July 20, 2013, as China's central bank warned them to be pru
A staff member walks in front of the headquarters of the People's Bank of China (PBOC) in Beijing on Tuesday, June 25, 2013. Chinese banks took control of setting lending rates on Saturday, July 20, 2013, as China's central bank warned them to be prudent and alert to credit risks. -- FILE PHOTO: REUTERS

BEIJING (AFP) - Chinese banks took control of setting lending rates on Saturday, as China's central bank warned them to be prudent and alert to credit risks.

The People's Bank of China (PBOC) announced on Friday that it was lifting controls on lending rates effective on Saturday, framing the move as a way to lower financing costs for businesses and support China's long-term economic restructuring. In a statement on its website on Saturday, the central bank said lending rates should be set "on the basis of market supply and demand", while taking account of "credit risk".

"Financial institutions must actively adapt to the market price-setting method" for fixing the rates, it said. The central bank also told institutions to "construct improved pricing mechanisms", raise levels of service, maintain normal lending and "strengthen interest rate risk management".

Under the reform, the central bank removed a lower limit on lending rates, which had previously been set at 70 per cent of its fixed benchmark rate. But it said it would not adjust current restrictions on deposit and mortgage rates, the latter in order to promote "healthy development of the housing market".

The move to give banks control of lending rates comes as growth in the world's second-largest economy has slowed this year, setting off alarm bells among analysts about prospects for the rest of the year.

Gross domestic product expanded at 7.5 per cent in the second quarter, down from 7.7 per cent in the first quarter and 7.9 per cent from the last quarter of last year. The figures this year have so far proved disappointing after the 7.8 per cent growth seen last year - itself the worst in 13 years.

Analysts described the measure as a positive and symbolic step toward liberalisation of China's still highly controlled financial system.

"The government is signalling a commitment to letting market forces play a greater role in determining financial conditions," economists at Capital Economics wrote in a report Friday. "In the long-run this should encourage lenders to pay more attention to credit risks and improve the allocation of credit."