Trading a Chinese Rate Cut

On Thursday, the People's Bank of China (PBoC) cut rates, repeating a move it had undertaken exactly 28 days prior. On June 15, Benzinga noted that analysts were expecting future rate cuts to come in the form of continued benchmark cuts for lending and deposit rates and Reserve Requirement Ratio (RRR) cuts. The PBOC elected to cut rates again Thursday, cutting the deposit rate by 25 basis points and the lending rate by 31 basis points.

In 2008-2009, China embarked on an enormous fiscal stimulus plan, which invested in infrastructure and created uninhabited "ghost cities." Analysts were expecting the government to rely on rate cuts, rather than fiscal stimulus, to spur growth. The 4 trillion yuan ($628 billion) package launched in 2008-2009 did super charge growth, but also left local governments saddled with debt that later started to sour.

Analysts were incorrect to predict a cut of the Reserve Requirement Ratio (RRR) though, as the PBOC refused to lower this rate. The RRR is the amount of reserves banks need to keep on deposit at the PBOC--cutting this rate signals that the central bank wants to spur more lending. By not cutting this rate and cutting more consumer/saver focused rates, the PBOC could be indicating that it wants to spur growth through consumption rather than increased bank lending. Cutting deposit rates raises the opportunity cost of holding deposits, potentially leading to higher consumption rates.

Economists have been calling for a shift towards a consumer driven economy in China for years now, and these back-to-back rate cuts may be the first signs of a shift. China's export driven economy was largely boosted by a pegged currency and lots of excess liquidity from banks. However, with the RRR not being touched, consumer-linked interest rates being cut, and the PBOC being more active in devaluing the yuan, China could be in the midst of a great change in its economy.

A shift towards a consumer economy would benefit retailers, however luxury retailers may benefit more so. The Chinese have seen massive wealth accumulation over the past two decades. Luxury retailers have opened countless stores in China, and now it may be time for these investments to pay off. Companies such as Tiffany's TIFF could benefit as Chinese luxury spending increases.