(Bloomberg) -- Regulators told commercial banks in China’s Jiangxi province not to settle their purchases of government bonds, taking some of the most extreme measures yet to cool a market rally that has alarmed Beijing.
Several rural banks failed to settle their transactions on Monday after regulator guidance to halt purchases late on Friday, said people familiar with the matter, asking not to be named discussing private information.
While reneging on trades is one way to prevent banks from taking excessive bond risk, the practice could undermine market integrity if counterparties worry that more transactions will fail.
The episode underscores the challenge Chinese regulators face as they try to maintain financial stability in the face of relentless demand for bonds. In one sign of how authorities are struggling to strike the right balance, the Jiangxi officials at one point rescinded their order before it was eventually reinstated, people familiar with the matter said.
The People’s Bank of China didn’t immediately respond to a fax requesting comment.
Bond yields in China have been hitting new lows for months amid economic pessimism and bets on interest rate cuts, prompting the government to resort to a slew of administrative steps to guide markets. China’s rural lenders have been among the most aggressive buyers of government bonds this year.
Among other measures, at least four Chinese brokerages started fresh steps to cut back trading of government bonds beginning last week, according to people with knowledge of the matter, with one saying the change followed guidance from authorities.
Regulators have also asked some of the nation’s largest state banks to record details of the buyers of the sovereign notes they sold, in a subtle sign of more efforts to cool the rally.
While the PBOC has so far stopped short of its pledge to borrow government bonds and sell them directly in the market, some state lenders unexpectedly sold seven-year bonds and 10-year notes earlier this month to push up yields.
Among other tactics in Beijing’s playbook, regulators were reported to have slowed the approval for new bond funds. Local authorities in eastern Jiangsu, one of China’s most affluent provinces, asked some rural lenders to suspend trading in sovereign notes.
There are signs the measures are beginning to have an impact. The benchmark 10-year yield climbed four basis points Monday to 2.24%, the highest level in three weeks. Meanwhile, trading of the most active 10-year government bond fell to 77 billion yuan ($10.7 billion) Friday, just 45% of last week’s high reached on Tuesday, according to data from the China Foreign Exchange Trade System.
--With assistance from Iris Ouyang.
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