China's central bank raised borrowing costs as a stable economyand factory reflation give it scope to follow the Federal Reservein tightening policy.

Hours after the Fed's quarter percentage-point move, thePeople's Bank of China increased the rates it charges inopen-market operations and on its medium-term lending facility.

The central bank said markets expected higher borrowing costsand that open-market rate increases don't necessarily equate tointerest-rate hikes, according to a statement. With the economysteady, inflation rising and real lending costs going down,financial institutions have strong incentives to expand credit, andhousing prices have surged in some cities, it said.

“The PBOC is right to explain that this adjustment was in largepart driven by market expectations,” said Andrew Polk,Beijing-based head of China research at Medley Global Advisors,which advises institutional investors. “Moving in line with the Fedalso shows that China is still essentially importing U.S. monetarypolicy, despite increased capital controls over the past severalmonths.”

The cost of seven-, 14- and 28-day reverse-repurchase agreementswas raised 10 basis points each. That followed an increase in earlyFebruary Seven-day reverse repos were offered at 2.45%, 14-dayreverse repos at 2.6% and 28-day reverse repos at 2.75%. Cost offunds lent via MLF increased by 10 basis points, with 6-month and1-year rates raised to 3.05% and 3.2%. MLF rates were alsoincreased in late January

With the economy starting 2017 on a firmerfooting, a relaxed PBOC Governor Zhou Xiaochuan last weeksaid the interest-rate differential with the U.S. won't lead topersistent speculation and rates will respond to the domesticeconomy. Factory-gate prices have ended four years of deflation andare now climbing at the fastest pace since 2008, allowing him toswitch his sights to reining in excessive leverage and surging homeprices.

The onshore yuan strengthened the most in a month on anintra-day basis. Government debt also increased, with 10-yearyields falling four basis points to 3.32%.

Higher open-market operation interest rates are mainly decidedby the market, the PBOC said in a Q&A statement. More flexibleinterest rates can help deleveraging, curb bubbles and preventrisks, and market participants already had relatively strongexpectations for higher open-market rates based on China's economicrebound and the Fed's rate hike, it said.

Li Keqiang announced this month a 2017 expansion target ofaround 6.5%, or higher if possible, a speed he said isn't low oreasy to meet. China will fasten its “seat belt” and rein inrisks as it pursues mid- to high-speed growth, the premier told agroup of about 1,000 journalists at the Great Hall of the People onWednesday.

“The PBOC will continue with incremental tightening in theinterbank market this year,” said Cui Li, head of macro research atCCB International Holdings Ltd. in Hong Kong. “But the impact onthe real economy is likely limited, as financial conditions arestill quite accommodative and real borrowing costs by enterprisesare still near a five-year low.”

The timing of the PBOC's actions will need to synchronize withother major central banks in the future, particularly the Fed,because China can't use administrative tools to manage capitalflows forever, according to Raymond Yeung, chief greater Chinaeconomist at Australia & New Zealand Banking Group Ltd. in HongKong.

“Today's action is a precautionary action for the stabilizationof the RMB exchange rate,” Yeung said. “It provides a signal thatChina will start to make use of interest rate tools to govern itsmonetary policy and influence cross border flows.”

Across the East China Sea, the Bank of Japan kept itsunprecedented monetary easing program unchanged on Thursday.

The PBOC said in its statement there's no need to overinterpretits monetary actions. Some economists also cautioned againstreading too much into the announcements.

“It's not a big move, and it won't have a major economic impact,but the message is financial sector derisking,” said Tim Condon,head of Asian research at ING Groep NV. “They believe this signalwill discourage that kind of borrowing for more borrowing.”

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