On Sunday, the People's Bank of China (PBOC) cut its benchmark lending rate by 25 basis points to 5.1 percent. What does this central bank’s move means for the global economy and the gold market?

China’s economy is slowing down dramatically. According to customs data released on Friday, China’s trade dropped 10.9 percent in April year-on-year (exports fell 6.4 percent, while imports plummeted 16.2 percent). Therefore, it should be now clear that weak trade activity in February and March was not caused by the Lunar New Year holiday, but it reflected a global economic slowdown, as we wrote in the last Market Overview.

We did not have to wait long for the PBOC’s response. On Sunday, the Chinese central bank cut its benchmark one-year lending rate and deposit rate by 25 basis points to, respectively, 5.1 percent and 2.25 percent. Such a quick move by the central bank (the third interest rate cut since November last year) means that the economic situation in China is probably worse than it is commonly believed as the economic slump continues. The PBOC said in its statement that “China's economy is still facing relatively big downward pressure”. These problems are reflected by the sharp increase in non-performing loans. According to the official data, China’s non-performing loans rose 141 billion yuan during first quarter to 983 billion, which was the biggest quarterly increase in history.

Taking into account that more key economic data on China’s economy (including industrial output and investment) is scheduled to be released on Wednesday, the timing of the rate cut could signal that these numbers may disappoint again.

However, the problem with China is production and manufacturing excesses, and in our view it is not possible to solve this problem through expansionary monetary policies. Indeed, China's non-manufacturing PMI is at a 12 month low, despite the central bank’s easing. Easy money would only make things worse by creating a bubble in the stock market.

The key takeaway is that China’s economy is still (and even further) slowing down. Although gold prices eased in Asia on Monday following interest rate cuts by China's central bank, the slowing growth should be a friendly environment for the gold prices. The concerns about the global economy (China’s slowdown could drag down the global economy, including the U.S. economy) should increase the safe-haven demand for the yellow metal.

Thank you.

Arkadiusz Sieron
Sunshine Profits‘ Gold News Monitor and Market Overview Editor

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