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A man wearing a mask walks past the headquarters of the People's Bank of China, the central bank, in Beijing, China, on Feb. 3, 2020.Jason Lee/Reuters

China’s central bank will scale back support for the economy in 2021 and cool credit growth, but fears of derailing a recovery from a pandemic-induced slump and debt defaults are likely to prevent it from tightening any time soon, policy sources said.

This expands on a theme recently outlined at China’s annual Central Economic Work Conference to plan for 2021, where leaders said the country would keep its pro-active fiscal policy and make monetary policy flexible and targeted.

The People’s Bank of China (PBOC) is poised to keep its benchmark lending rate unchanged in coming months, while steering a steady slowdown in credit expansion in 2021, said the three sources, who are involved in internal policy discussions but did not want to be named as the details are not yet public.

“Monetary policy will definitely not be as loose as before,” said one of the people. “But a sudden policy tightening would expose problems in the economy, such as debt defaults.”

Beijing is likely to reduce its fiscal stimulus next year and cut its 2021 budget deficit to about 3 per cent of GDP from a target of at least 3.6 per cent this year, the sources said.

A continued rebound from 2020′s deep economic disruptions, triggered by the COVID-19 pandemic and the rift in China-U.S. ties, would give policy makers more leeway in curbing debt and financial risks next year, the sources added.

The coming year marks the start of China’s 14th five-year plan, which policy makers see as vital for steering the world’s second-largest economy past so-called “middle income trap.”

The PBOC, finance ministry and the National Development and Reform Commission did not immediately respond to Reuters’ requests for comment.

The central bank has rolled out a raft of measures including cuts in interest rates and reserve ratios since February to support the virus-hit economy. But it has shifted to a steadier position in recent months and kept its benchmark lending rate, the loan prime rate, unchanged since May.

“Barring a significant rise in inflation, the central bank is unlikely to raise interest rates,” one of the sources said.

China’s inflation has struggled to perk up this year, and analysts predict that a decline in its consumer prices will stretch into early 2021.

SOARING DEBT

China’s recovery remains uneven, with consumption and private investment trailing state spending and exports, which have been driven by overseas demand for anti-virus goods and electronics products as more people work from home.

Premature policy tightening could hit consumers and firms, so the PBOC will focus on stabilizing, instead of decreasing, China’s debt levels, the sources said.

The Chinese Academy of Social Sciences, a government think tank, sees China’s macro leverage ratio – the ratio between total debt to GDP – jumping by about 30 percentage points in 2020 to more 270 per cent.

“It’s possible to shift from stabilizing leverage to reducing leverage if the recovery reaches a certain stage, but we should not rush,” said Jia Kang, head of the China Academy of New Supply-side Economics.

Brokerage Nomura expects growth of total social financing, a closely watched measure of credit and liquidly, to slow to about 11.5 per cent by end-2021, from 13.6 per cent in November.

China’s economy is expected to grow this year at its weakest pace since 1976 at just over 2 per cent, but recover sharply to between 8 per cent and 9 per cent in 2021 as the world emerges from the health crisis.

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