China’s repo markets and new developmentsContributor Aidan Shevlin
Repurchase agreements (repos) are evolving, playing an ever more important role in China’s financial system. The repo market is a crucial funding source for financial institutions and an investment option for RMB money market funds, helping them offer cash investors relatively attractive returns with flexible liquidity. The People’s Bank of China also depends on the repo market as a critical quasi-monetary policy tool.
- Repos are a crucial component of global financial markets, increasing market efficiency and liquidity. In Western markets, long and widespread use of repo, combined with strong legal status under bankruptcy laws and the clarity provided by a master agreement of repo transactions, offers transparency and reassurance to investors and participants.
- Chinese repo markets also follow standardised policies and procedures. However, the lack of clarity regarding collateral and counterparty risk, as well as confusion about how repo markets operate, has created uncertainty and concern.
- There are two types of Chinese repo: interbank and stock exchange. RMB money market funds (MMF) favour stock exchange repo, which provides quasi-sovereign counterparty risk and more timely settlement, albeit with greater volatility. Because it offers uniform counterparty risk, real-time monitoring and genuine market-driven dynamics, stock exchange repo is widely recognised as the most accurate measure of funding costs, liquidity conditions and market stresses in Chinese financial markets.
- Repo is an important investment option for RMB money market funds. Their ability to offer higher, market-driven interest returns helped spur the growth of MMF assets in China. Essential to this success has been the ability to invest in repo.