growth slowed a bit further to 12.9% yoy in October, down from 13% in September. RMB new lending, however, rose to RMB587bn in October, up from around RMB500bn per month in the past months. We believe a very modest credit easing has started, and it will likely continue in the coming few months. As we pointed out earlier, we expect monthly new lending to rise gradually to around RMB600bn in November and RMB700bn in December, and will stabilize at an monthly average of RMB800bn/m in the first few months of next year. This relaxation is by no means drastic, especially compared with the monthly average new lending of RMB1.5tn in Q1 of 2009. Overall, we expect total new RMB lending to be contained at RMB7.5tn this year, and M2 growth will be close to 14% by the end of this year. For next year, our baseline forecast is that M2 growth will rise only slightly to 16% and loan growth be largely stable at around 15%.

Bank deposits fell by about RMB200bn in October, driven by a sharp (RMB727bn) fall in household deposits (which is partially offset by a rise in govt deposits). It partly reflects the seasonality (due to the National Day holiday, deposits tend to grow at slower pace in Oct). It also suggests that, given negative real rates, households continue to take deposits out of the banking system, in part to participate in informal lending and other off-balance sheet investments to gain higher returns. The rise in the cash-deposit ratio leads to a fall in the money multiplier. In the mean time, the rise in the effective RRR (due to expansion of the deposit base on which the RRR is calculated) also reduces the multiplier.

This creates a challenging environment for the banking system and the PBOC in the near-term. On the one hand, the banking system needs to increase lending; on the other hand many banks do not have enough deposits (liquidity). The PBOC will thus have to ease the liquidity condition by stopping the issuance of PBOC bills in the coming weeks, and will probably need to cut the RRR on small banks soon. Although our basecase forecast is that official RRR cuts on all banks will take place in Q1 next year, we now do not rule out the possibility of an official RRR cut before the end of this year, if the net capital inflow and trade surplus do not generate enough liquidity for the amount of new lending that the system needs to achieve.

• [Editor:editor]