(Yicai) Aug. 25 -- China’s central bank is trimming medium-term liquidity injections while ramping up short-term support to address temporary month-end funding shortfalls more precisely.

The People’s Bank of China announced yesterday that it would today inject CNY500 billion (USD74.4 billion) into the banking system through a one-year medium-term lending facility operation to maintain adequate liquidity in the banking system.

With CNY600 billion in MLF loans maturing this month, the operation will result in a net drain of CNY100 billion, the first in nearly four months. The PBOC added a net CNY100 billion in July.

At the same time, short-term funding markets face two major strains. The CNY600 billion of MLF loans maturing this week coincide with a peak in government bond payments, with net payments nearing CNY800 billion, the highest weekly level since last year. Together with the usual month-end factors, this creates a meaningful risk of temporary cross-month funding stress.

The net MLF withdrawal should not be interpreted as a signal of monetary tightening, according to Wang Qing, chief macroeconomic analyst at Golden Credit Rating International. The move largely reflects the maturity preferences of financial institutions’ funding needs and does not herald tighter liquidity conditions, he noted.

The PBOC also announced yesterday that it will conduct overnight reverse repurchase operations at a fixed interest rate through quantity-based bidding between Aug. 27 and Sept. 1, with the maximum daily amount set at CNY600 billion, to better meet the banking system's short-term liquidity needs.

In the eight trading days between Aug. 12 and 21, the PBOC refrained from pumping in funds through its seven-day reverse repo agreements.

That restraint reflects changes in active borrowing needs among financial institutions, said Dong Ximiao, chief economist at China Merchants Union Consumer Finance. This, coupled with the CNY1 trillion (USD148.7 billion) added via six-month outright reverse repos in mid-August, meant the central bank saw no need for a full MLF rollover to boost medium-term liquidity.

Wang noted that the PBOC’s continuous overnight reverse repo operations will help control the volatility of DR001, an overnight repo rate for depository institutions.

Analysts regard the PBOC’s shift to short-term support as a more sophisticated form of liquidity management against a backdrop of ample overall liquidity in the banking system and more pronounced short-term strains, thereby smoothing out the volatility caused by government bond payments and month-end regulatory assessments.

The latest operation suggests the PBOC is moving away from broad-based easing to fine-tuned adjustments and maturity optimization, Dong pointed out.

Looking ahead, Wang believes that overnight reverse repos could gradually replace seven-day reverse repos as the PBOC’s main tool for fine-tuning short-term liquidity. In the longer run, this may pave the way for the overnight rate to replace the seven-day rate as the main policy benchmark.

Editor: Futura Costaglione