The relationship between expansive monetary policy and credit availability has long been a focal point for economists, particularly in countries like China where state intervention plays a pivotal role in steering the economyAs the People's Bank of China (PBOC) gears up for a new phase of broad credit availability, early indicators suggest a downward trajectory for government bond yields, which may reflect the market's anticipations surrounding credit capabilities.

In January, a surge in financial data that exceeded expectations led to a prevailing market sentiment indicating that enhanced credit availability might be detrimental for debt marketsIn just two trading days, the yield on 10-year government bonds surged from 2.73% to 2.80%. This begs the question: how exactly will this new wave of credit expansion impact the bond market? To gain clarity, it is essential to examine the macroeconomic context and market reactions from past credit expansion cycles in China.

Historically, indications of credit cycles can be analyzed through a close inspection of lending growth and the expansion of social financing

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However, it is noteworthy that since the PBOC began issuing monthly data on social financing in 2016, inconsistencies arose due to adjustments in reporting methodologiesAs a result, lending balance growth year-on-year serves as a dependable metric for gauging credit expansion.

Since 2008, China has experienced five significant phases of credit expansion, neatly bracketed by periods of economic downturn and recovery: 2008, 2012, 2015, 2018, and 2020. Each of these phases shared a common thread of monetary easing coupled with a government-led push towards economic stimulus, underlining the role that state-directed funding plays in sustaining growth.

The first cycle of credit expansion emerged in the wake of the global financial crisis in 2008. As the economy teetered under the weight of declining demand, the central bank accelerated monetary easing by reducing benchmark lending rates and reserve requirements

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The ambitious “four trillion” yuan stimulus package ignited a flurry of investment in real estate and infrastructure, leading to increased debt levelsLoan balances exploded, soaring from 14.7% growth in September 2008 to an astounding 34.44% by June 2009.

In 2012, amidst the turbulence of the European debt crisis, China once again embarked on a path of credit expansionThe government implemented a series of interest rate cuts and reduced reserve requirements while ramping up infrastructure spendingThis push saw loan balance growth climb steadily over the year, reflecting the economy's increasing reliance on state investment as a stimulus measure.

By 2014, as China transitioned to a new growth model, the trend continuedWith economic performance under pressure, the PBOC engaged in multiple rate cuts aimed at shoring up financial support for the real estate sector

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The subsequent rise in lending growth indicated an economy in recovery, albeit intermittently buoyed by state-driven credit policies.

Further credit expansions unfolded in 2018 amid rising tensions from U.S.-China trade disputes, again leading to policies focused on infrastructure development as a vehicle for growthBorrowing surged as new funding sources flooded the market, though constraints around real estate financing began to curtail potential gains by 2019.

The most recent cycle of credit expansion commenced in 2020, driven by the catastrophic impacts of the COVID-19 pandemicThe PBOC introduced sweeping liquidity measures, cutting rates and enhancing lending programs, which included substantial local government financing initiatives aimed at combating the economic falloutThe rapid increase in loan balances underscores a critical moment for both public and private sector financing strategies.

A recurring pattern observed across these cycles demonstrates that government bond yields typically respond in a characteristic V-shaped recovery

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Initially, yields decline as credit expansion takes root and investors adjust projections for future growthHowever, as expectations for an economic rebound gain traction, yields tend to rise, embodying the shifts in monetary policy stances that accompany each cycle's maturation.

The present economic landscape finds China grappling with increasing downward pressureIn December 2021, directives encouraged a focus on steady growth through proactive policy measuresDespite early signs of economic recovery, the underlying demand for credit remains subdued, indicating ongoing uncertainty in the bond market amidst historically low yield levels.

The current credit environment is shaped by new challenges not faced in previous cycles, significantly influenced by the mandates surrounding local government debt risk management and property market regulations

These obstacles limit the potential for broad-based credit expansion and result in a cautious climate for lending.

Infrastructure financing remains a critical focus, where recent efforts to boost special bond issuance anticipate greater support for projectsHowever, without sufficient suitable investment proposals, the potential impact on actual construction outputs remains in questionAdditionally, the constraints affecting local government financing platforms further limit available funding sources.

In real estate, regulatory environments have softened somewhat to enable reasonable corporate borrowing; nonetheless, the stringent “houses are for living, not speculation” framework and related financing limitations continue to exert control over market dynamicsThese nuanced restrictions reduce the effectiveness of any credit expansion initiatives in stimulating immediate economic activity.

Considering these different influences, we find ourselves at a juncture where the floor beneath lending growth rates has not yet been firmly established