The People's Bank of China announced the launch of a new tool—open market buyback reverse repurchase. What is the purpose of this monetary policy tool? What signal does the introduction of this tool at this time send?

On the same day, the People's Bank of China issued a public announcement stating that, to maintain reasonable and sufficient liquidity in the banking system and further enrich the toolbox of the central bank's monetary policy instruments, the People's Bank of China has decided to activate the open market buyback reverse repurchase operation tool from the present date. The operation targets are primary dealers in open market operations, with operations conducted on a monthly basis in principle, and the term does not exceed one year.

To understand the newly introduced buyout reverse repurchase agreement, it is first necessary to clarify what the central bank's reverse repurchase operation entails. The central bank injects liquidity into the market, not by directly "giving money" to financial institutions, but often through "borrowing" to achieve this. The People's Bank of China purchases securities from primary dealers and agrees on a term for the primary dealers to repurchase the securities. In simple terms, a reverse repurchase is an operation where the central bank actively lends funds by purchasing securities from primary dealers to inject liquidity into the market.

What are the innovations and characteristics of the outright reverse repo compared to the traditional reverse repo operations? Firstly, the outright reverse repo "buys out" the right to repurchase or sell the securities separately. According to the announcement, the repurchase targets include government bonds, local government bonds, financial bonds, and corporate credit bonds. Currently, the mainstream model in China's money market is the pledge-style repo, where the collateralized bonds are frozen in the account of the funds borrowing party and cannot continue to circulate in the secondary market. In the event of a default or other situations, this freezing is not conducive to protecting the rights of the funds lending party. "In recent years, more and more overseas investors have entered China's bond market, and they are more accustomed to the outright repo commonly used internationally," said Wen Bin, Chief Economist at China Minsheng Bank. He believes that the central bank's introduction of the outright reverse repo can alleviate the pressure on overall liquidity regulatory indicators for financial institutions caused by collateral freezing, continuously enhancing the liquidity, safety, and internationalization level of the interbank market.

Secondly, the buyout reverse repurchase can reduce the "free-riding" behavior in interest rate bidding. Previously, during the interest rate bidding process, some institutions did not actively participate in bidding but waited for other institutions to quote interest rates before choosing to accept lower rates, thereby saving their own costs. This "free-riding" behavior easily leads to insufficient bidding competition in the market and fails to truly reflect the level of demand for funds. This announcement clearly states that the open market buyout reverse repurchase adopts a fixed quantity, interest rate bidding, and multiple price winning methods. This means that institutions can choose different interest rates for bidding based on their own circumstances, and they will win in order from high to low, with the winning interest rate being their own bidding rate. Dong Ximiao, Chief Researcher at China Merchants Union Consumer Finance, believes that this can reduce the "free-riding" behavior of institutions during interest rate bidding and more accurately reflect the level of demand for funds by institutions. Moreover, since no new monetary policy tool winning interest rate has been added, it highlights that this tool is only positioned as a liquidity injection tool and does not bear the function of the central bank's policy interest rate.

Additionally, the buyout reverse repo can enhance the intertemporal adjustment capability of liquidity within one year. Currently, among the monetary policy tools in China, there are various liquidity injection tools, mainly including open market reverse repo operations with terms ranging from days to years, medium-term lending facilities (MLF) with terms up to one year, as well as long-term liquidity injection through government bond purchases and reserve requirement ratio cuts. "Previously, the monetary policy toolset lacked medium-short-term liquidity injection tools with terms from one month to one year, and this move will greatly enhance the intertemporal adjustment capability of liquidity within one year," said Wen Bin. The buyout reverse repo has a term not exceeding one year, and it is expected to cover terms such as three months and six months, which will help improve the precision level of liquidity management.

Since the beginning of this year, in response to liquidity management, the People's Bank of China has introduced several new tools: the creation of temporary overnight positive and negative repurchase agreements, and the conduct of open market operations involving government bond purchases and sales... Why has a new tool for liquidity management been introduced at this time? "The People's Bank of China has chosen this moment to introduce a new tool, which is expected to better offset the concentrated maturities before the end of the year," said Wang Qing, Chief Macro Analyst at Orient Gold Standard. The introduction of a buyback reverse repurchase operation can effectively smooth out the fluctuations in the money market caused by large maturities, helping to maintain reasonable and ample liquidity at the end of the year. According to statistics, there are maturities of . trillion yuan in both the month and the month, accounting for more than 40% of the current balance. Combined with the accelerated issuance of government bonds and increased cash injections at the end of the year, the liquidity of the banking system may face significant pressure to fill the gap.

Cutting the reserve requirement ratio is also a way to increase liquidity. Previously, Pan Gongsheng, Governor of the People's Bank of China, stated that depending on market liquidity conditions, the bank would consider further reducing the reserve requirement ratio by one to two percentage points before the end of the year. This means that the amount of money commercial banks are legally required to lock up with the central bank will decrease, allowing them to obtain more long-term liquidity. Experts say that the new tool will further enhance the precision of China's monetary policy regulation, making it more capable of maintaining reasonable and ample liquidity at the end of the year, providing a favorable monetary and financial environment for stable economic growth.