The root cause of M1's decline: Local government debt reduction

In May 2024, new social financing increased by 2.07 trillion yuan (compared to a decrease of 65.8 billion yuan), and new RMB loans increased by 950 billion yuan (compared to 730 billion yuan). The year-on-year growth rate of social financing was 8.4% (compared to 8.3% previously), M2 grew by 7% year-on-year (compared to 7.2% previously), M1 decreased by -4.2% year-on-year (compared to -1.4% previously).

Key Points

1. The significant year-on-year decline in M1 is mainly due to the sharp decrease in the net increase of current deposits of government agencies, while the decline in the net increase of non-financial corporate deposits year-on-year has actually improved compared to April.

2. Despite the recent strict scrutiny on manual interest rate adjustments, corporate time deposits and other deposits increased in both April and May, with the main decrease being in corporate current deposits with very low interest rates.

3. Looking at financial data, the current economy is still at the bottom, with local governments possibly genuinely reducing debt, and financial regulation remaining relatively strict.

4. In 2023, the depreciation of the RMB was relatively larger compared to neighboring countries, while in 2024, the depreciation of the RMB compared to neighboring countries was relatively smaller. Therefore, the constraints on loose monetary policy are relatively smaller. The probability of subsequent policy rate cuts and increased re-lending is higher. Compared to ultimate borrowers, what is needed now are ultimate lenders.

5. From the perspective of the capital market, the trend opportunities in equities are not yet clear, but there is relative optimism in three directions: dividend assets, the overall market, and Hong Kong stocks. Bond market volatility has increased, and the yield curve has steepened. It is particularly emphasized that attention should be paid to the upward movement of coal prices, as it is a signal of increased risk appetite, a shift between stocks and bonds, and a substantial improvement in economic supply and demand.

Report Summary

The main reason for the decline in M1 in May is the decrease in the net increase of current deposits of government agencies.

1. Looking at the data: The net increase of M1 in May decreased by 1.8715 trillion yuan year-on-year. Among them, M0 increased by 90 billion yuan year-on-year, the net increase of current deposits of non-financial enterprises decreased by 803.9 billion yuan year-on-year, and the net increase of current deposits of government agencies decreased by 1.1575 trillion yuan year-on-year. Compared to April, the net increase of M0 in April decreased by 21.3 billion yuan year-on-year, the net increase of current deposits of non-financial enterprises decreased by 2.0803 trillion yuan year-on-year, and the net increase of current deposits of government agencies increased by 357.1 billion yuan year-on-year.

2. The decline in the net increase of current deposits of government agencies may correspond to the reduction of local government debt. Historically, the decline in the net increase of current deposits of government agencies has occurred during periods of strict supervision of local government debt, such as in 2018 and 2021. Currently, there is also a rare sign of an increase in the net increase of fixed-term deposits of government agencies exceeding that of current deposits since the beginning of the epidemic. (From stock data, current deposits account for approximately 88% of the total deposits of government agencies.)

3. The year-on-year conversion to negative of current deposits of non-financial enterprises has been ongoing for a year. Currently, the stock of corporate current deposits has roughly returned to the level of 2017, while the stock of fixed-term and other deposits is 1.9 times that of the same period in 2017. It is worth noting that even in the recent context of strict scrutiny on manual interest rate adjustments, corporate fixed-term and other deposits increased in both April and May, with the main decrease being in corporate current deposits with very low interest rates Financial data in May reflects the current situation: the economy is at the bottom, local governments are under debt pressure, and financial regulation is strict

1. Economic judgment still tracks the scissor gap between corporate and household deposits. In May, the scissor gap between corporate and household deposits once again decreased, reaching the lowest level since 2008. This may indicate potential future economic pressure, with the time for corporate profit trends to rise possibly further delayed.

2. Local governments may be actively reducing debt. Corresponding observations include:

① Decrease in disposable funds of government agencies. The overall decline in deposits of government agencies may correspond to a decrease in fiscal allocations (local fiscal pressure) or a decrease in their own income (possible short-term deposit pressure due to economic conditions). Furthermore, the reduction in current deposits by government agencies may indicate a weaker willingness for investment and consumption.

② Corporates may be actively reducing leverage. Against the backdrop of corporate deposit stock turning negative year-on-year for the first time in two consecutive months, net financing of local government bonds has been continuously negative for nearly six months, and short-term and medium-to-long-term loans for non-financial enterprises are significantly lower than historical levels. However, this "deleveraging" may be related to the suppression of manual interest rates and may not necessarily correspond to the expected decline of enterprises.

3. Financial suppression of funds transitioning from "real to virtual" is still ongoing. Referring to the previous report "Three Questions Regarding the Sharp Rise and Fall of M2," the main reason for the decline in M2 since 2024 is the reduction in funds that commercial banks have allocated to non-bank institutions. This behavior indicates the ongoing transition of funds from "real to virtual" under current financial strict regulation. Historically, during periods of strict financial regulation, market styles tend to favor large-cap stocks over small-cap stocks.

Mapping of current financial data to policies: Probability of loose monetary policy is rapidly increasing

1. Loose monetary policy is a necessary prerequisite for expanding credit. The combination of a bottoming out economy, weak local finances, and tightening financial regulation suggests an increased necessity for central policy efforts to promote credit expansion. At present, we believe that there may be a possibility of future monetary policy easing by the central bank.

2. The method of "increasing volume" for loose monetary policy is more important than "lowering prices." Whether the central bank expands credit through quantity (providing PSL, transferring profits, policy financial instruments) or price (lowering policy interest rates) reflects the differences in the levers for expanding credit:

① For the government, the quantity of funds is more sensitive. The government's leverage increase requires the central bank to provide a large amount of long-term funds [transferring profits in 2022, significant anti-epidemic refinancing in 2020, PSL in 2016].

② For the private sector, prices are more sensitive. When real interest rates are low, investment willingness increases, deposits decrease, and credit expansion accelerates.

3. We believe that this round of loose monetary policy may involve interest rate cuts and an increase in refinancing volume. Subsequently, attention can gradually shift to refinancing, PSL, or the injection of other medium-to-long-term funds, with the probability of lowering policy interest rates also increasing simultaneously. Compared to the ultimate borrowers, what is currently needed more are the ultimate lenders.

4. Exchange rate constraints in 2024 are relatively smaller than in 2023. The depreciation of the Renminbi in 2023 was relatively larger compared to surrounding countries, leading to greater exchange rate pressure. In 2024, the depreciation of the Renminbi relative to surrounding countries is relatively smaller, thus objectively allowing for more room for elastic release Report Directory

I. The decrease in government and institutional current deposits dominated the M1 month-on-month decline in May

Firstly, at the definitional level, M1 consists of cash in circulation (M0), as well as current deposits of government, institutions, enterprises, troops, and institutions in banks, rural deposits, and credit card deposits held by individuals, excluding savings deposits of residents.

Referring to the balance sheets and credit statements of other deposit-taking companies, we can divide M1 into M0, non-financial corporate current deposits, and government and institutional current deposits, where government and institutional entities include government agencies, institutions, troops, and institutions. Considering that rural deposits and credit card deposits held by individuals are relatively small, we temporarily ignore them.

From a month-on-month perspective, the net increase in M1 in May is basically the same as in April, significantly lower than historical levels. From 2014 to 2023, the average net increase in M1 in May is around 684 billion, with a net increase of -1.3 trillion in May 2024, which is 2 trillion less than historical levels; compared to this, the net increase in April is about 2.2 trillion less than historical levels; the average monthly net increase in the first quarter is about 210 billion less than historical levels.

However, looking at the breakdown of the month-on-month structure, the main reason for the decline in M1 in May is not non-financial corporate entities, but government and institutional units. The net increase in non-financial corporate current deposits in May was -803.9 billion compared to the same month last year, although still weak, it improved compared to -2 trillion in April. Moreover, -803.9 billion is not an extreme historical value, as in April 2019, there was a month-on-month decrease of -713.8 billion. But the net increase in government and institutional current deposits in May decreased by about 1.2 trillion compared to the previous month, the largest month-on-month decrease since 2013. In comparison, the net increase in government and institutional current deposits in April even increased by 357.1 billion year-on-year.

(I) The decline in government and institutional deposits may correspond to the pressure to reduce local government debt

Historically, the decline in the net increase of government and institutional current deposits has occurred during periods of strict supervision of local government debt. For example, in 2018 and 2021.

Looking at the overall government and institutional deposits (stock level, currently government and institutional current deposits account for 88%), since the fourth quarter of 2023, government and institutional deposits have rarely experienced a situation where the annualized growth of fixed-term deposits has been higher than that of current deposits for 7 consecutive months. Since 2013, similar situations have only occurred twice, once from September 2014 to April 2015, and once from December 2018 to February 2019. However, unlike the previous two instances, the improvement in this scenario occurred after the improvement in the annualized growth of government and institutional deposits, whereas this time the annualized government and institutional deposits are still declining （2）Non-financial corporate demand deposits have been negative year-on-year for nearly a year

For non-financial corporations, the year-on-year change in demand deposits has been negative for almost a year. In absolute terms, the current demand deposit balance for corporations is approximately 20.8 trillion yuan, which has essentially returned to the level of 2017. On the other hand, time deposits and other deposits for non-financial corporations are still growing rapidly. Currently, time deposits and other deposits for non-financial corporations amount to 55.4 trillion yuan, which is 1.9 times that of May 2017. Moreover, April and May saw the first year-on-year negative change in non-financial corporate deposits since 2012.

It is particularly noteworthy that even in the recent context of strict scrutiny on manual interest rate adjustments, corporate time deposits and other deposits increased year-on-year in April and May, with the main decrease being in demand deposits for corporations with very low interest rates.

2. What does the financial data for May reflect about the economic situation?

Firstly, looking at our leading economic indicators, the scissor difference between corporate and household deposits in May has once again declined, reaching the lowest value since 2008. This may indicate potential future economic pressure, with the timing of upward trends in corporate profits possibly being further delayed.

Secondly, local finances may face significant short-term pressure. Combining the analysis above, the net increase in deposits for government agencies and organizations has significantly decreased, while the net increase in time deposits has slightly increased. This behavior may correspond to three possibilities. Firstly, the overall decrease in net deposits for government agencies and organizations may correspond to a decrease in fiscal allocations (pressure on local finances) or a decrease in their own income (short-term pressure on the economy); secondly, the significant decrease in net deposits for government agencies and organizations may correspond to weaker investment and consumption intentions; thirdly, the increase in net time deposits for government agencies and organizations may correspond to increased financing pressure, with higher return rate requirements for deposit funds.

In addition, while corporate deposits are currently negative year-on-year, the net financing amount for local government bonds has been continuously negative for nearly six months, and short-term and medium-to-long-term loans for non-financial corporations are significantly lower than historical levels. This may indicate that corporations are actively reducing their leverage. However, it is worth noting that this "deleveraging" may be related to the suppression of manual interest rate adjustments and may not necessarily correspond to a decline in corporate expectations.

Thirdly, financial regulation may gradually tighten. Referring to the previous report "Three Issues Regarding the Sharp Fluctuations in M2", the main reason for the decline in M2 since 2024 is the reduction in funds that commercial banks have allocated to non-bank institutions. This behavior indicates the current restraint on funds moving from the real economy to the virtual economy. Historical experience shows that during periods of strict financial regulation, the market style tends to favor large-cap stocks over small-cap stocks. **

Three, How to Expect Subsequent Monetary Policy with Weak Financial Data?

The combination of bottom-shaking economy, locally weak finances, and tightening financial regulation has increased the necessity for central policy efforts to promote credit expansion. From the current perspective, we believe that there may be a possibility of loosening monetary policy by the central bank in the future.

In terms of loosening monetary policy, "increasing volume" is more important than "reducing price." The central bank's approach to loosening monetary policy, whether through volume (providing PSL, transferring profits, policy financial instruments) or price (lowering policy interest rates), reflects the differences in the leverage of credit expansion:

① For the government, the quantity of funds is more sensitive. The government's leverage requires the central bank to provide a large amount of long-term funds【2022 transfer of profits, large amount of anti-epidemic re-lending in 2020, 2016 PSL】

② For the private sector, the price is more sensitive. When real interest rates are low, investment willingness increases, deposits decrease, and credit expansion accelerates.

We believe that in this round of loosening monetary policy, there is a probability of interest rate cuts and increased re-lending. Subsequently, attention can be gradually shifted to re-lending, PSL, or the injection of other medium to long-term funds, with the probability of lowering policy interest rates also increasing simultaneously. Compared to the ultimate borrowers, what is needed now are the ultimate lenders. It is worth noting that the exchange rate constraint in 2024 is relatively smaller than in 2023. In 2023, the depreciation of the RMB is relatively larger compared to surrounding countries, hence there is greater exchange rate pressure. In 2024, the depreciation of the RMB is relatively smaller compared to surrounding countries, therefore there is objectively room for elastic release.

Four, May Financial Data Review: Significant Year-on-Year Decline in M1

(I) Credit: Weakness in Household Credit

In May, RMB loans increased by 950 billion yuan, with a year-on-year increase of 410 billion yuan. The RMB loan balance at the end of the month was 24.873 trillion yuan, a year-on-year growth of 9.3%, down by 0.3 percentage points from the previous month.

Looking into details, household loans increased by 75.7 billion yuan, including a 24.3 billion yuan increase in short-term loans, a year-on-year decrease of 174.5 billion yuan, and a 51.4 billion yuan increase in medium to long-term loans, a year-on-year decrease of 113.4 billion yuan; loans to corporate entities increased by 740 billion yuan, including a 120 billion yuan decrease in short-term loans, a year-on-year decrease of 155 billion yuan, a 500 billion yuan increase in medium to long-term loans, a year-on-year decrease of 269.8 billion yuan, and a 357.2 billion yuan increase in bill financing, a year-on-year increase of 315.2 billion yuan.

(2) Social Financing: Excluding Government Debt, Social Financing Continues to Decline

In May, new social financing reached 2.0648 trillion yuan, an increase of 508.8 billion yuan year-on-year, with a year-on-year stock increase of 8.4%, up 0.1% from the previous month.

Looking at the detailed data, RMB loans to entities increased by 819.7 billion yuan, a decrease of 402.2 billion yuan year-on-year; undiscounted bank acceptance bills decreased by 133 billion yuan, a decrease of 46.5 billion yuan year-on-year; entrusted loans decreased by 9 billion yuan, a decrease of 44 billion yuan year-on-year; trust loans increased by 22.4 billion yuan, a decrease of 7.9 billion yuan year-on-year; net financing of corporate bonds increased by 28.5 billion yuan, an increase of 247.5 billion yuan year-on-year; net financing of government bonds increased by 1.2266 trillion yuan, an increase of 669.5 billion yuan year-on-year; domestic stock financing of non-financial enterprises increased by 11.1 billion yuan, a decrease of 64.2 billion yuan year-on-year.

(3) Deposits: Continuous Decrease in Corporate Deposits

In May, M2 increased by 7% year-on-year, a decrease of 0.2% from the end of the previous month; M1 increased by -4.2% year-on-year, a decrease of 2.8% from the previous month.

In May, RMB deposits increased by 1.68 trillion yuan, an increase of 220 billion yuan year-on-year. The balance of RMB deposits at the end of the month was 293.26 trillion yuan, an increase of 6.7% year-on-year.

Specifically, household deposits increased by 420 billion yuan, a decrease of 116.4 billion yuan year-on-year. Non-financial corporate deposits decreased by 800 billion yuan, an increase of 660.7 billion yuan year-on-year; fiscal deposits increased by 763.3 billion yuan, an increase of 526.4 billion yuan year-on-year; deposits of non-bank financial institutions increased by 1.16 trillion yuan, an increase of 837.9 billion yuan year-on-year.

Author: Zhang Yu, Source: Yiyu Zhong, Original Title: "Government and Institutional Deposits Lead M1 Year-on-Year Decline - Financial Data Review for May 2024"

Zhang Yu S0360518090001