Beijing weighs further opening of capital accounts in post-Fed hike era
China is powerful enough to retain its own agenda in further openings, but pace will be subject to global rebalancing, analysts say
Holding the world’s biggest foreign reserves, an enormous domestic market fuelled by sharply rising consumption demand, Beijing has a huge say when to open its capital account.
But the pace for further movements will still be subject to how the global financial markets rebalance, especially after the US Fed announced on Wednesday its first rate hike in almost a decade, analysts said. The Fed decided to raise rates by 25 basis points overnight in its first rate increase since 2006, while its statement indicated gradual increases will come along as the US economy strengthens further.
“As you can tell from the process of China joining the SDR, China is highly competent in sticking to its own agenda when engaging in the global market, compared to decades ago when it applied for membership in the WTO,” said Li-Gang Liu, China economist at Australia and New Zealand Bank (ANZ).
SDR, or the Special Drawing Rights, refers to the reserve currency basket under the IMF. The IMF on November 30 agreed to add the Chinese currency yuan to this basket, after it judged the yuan as “freely usable”, a criteria China failed to reach during its first application in 2010.
It was a contentious evaluation, and analysts argue about whether yuan is qualified for membership, given the currency is neither fully convertible, nor free floating. It was also the first change in the SDR since 1999, when the euro replaced the deutsche mark and French franc.
In comparison, it took 16 years for China to become the 143rd member of the World Trade Organization in 2001. To facilitate the negotiation, Beijing assented to accept a China-specific safeguard, effective until 2013, allowing other members to take action against any import from China that caused market disruption.
“I would not doubt policy makers’ willingness to enhance renminbi’s convertibility and opening up more capital account items,” said Helen Qiao, greater China chief economist at Bank of America Merrill Lynch.
However, considering the market reactions, especially after the central bank adjusted the exchange rate mechanism on August 11, and the general instability of the global financial markets with the anxiety due to Fed’s rate hike, this whole process could potentially drag, and the capital account liberalisation process may also be pushed back in 2016, she noted.
With the view the US Fed was going to increase rates earlier in the year, the PBOC devalued the yuan by almost 2 per cent on August 11 by raising the official mid price, which took the market by surprise, and Beijing later explained the move as a way to relax controls on the exchange rate.
The move was also largely taken by analysts as an official recognition of the yuan devaluation, as the US dollar picked up strong momentum afterward.
China’s foreign-exchange reserves declined last month to its lowest level since February 2013 amid heavy capital outflows, and as the central bank sold dollars to prevent a further steep drop in the yuan.
The currency hoard dropped by US$87.2 billion to US$3.44 trillion at the end of November, from US$3.53 trillion a month earlier, according to People’s Bank of China data released in early December. The total decline this year has already hit US$405 billion.
During his speech in Washington in an IMF meeting this April, PBOC governor Zhou Xiaochuan pledged to launch two schemes in 2015 that would free currently inconvertible items under the capital account – one is QDII 2, which allows cross-border investment by individuals; the other is the Shenzhen -- Hong Kong stock connect, which enables international investors to trade in the domestic stock market.
But neither of the two schemes has started at this time.
Li Yimin, an economist with Shenwan Hongyuan Securities based in Beijing, said the major drags lie in internal and external “uncertainties”.
“The authorities’ concerns are that the Shenzhen connect may be embarrassed by low participation, particularly after the stock market rout in summer. As for QDII2, they might be waiting for a better launching time, to buffer the capital outflow pressure triggered by the Fed’s rate hike.”
“Once things get stabilised. The schemes will be kicked off quickly,” he added.
China’s capital markets will be “much more accessible” by the year 2020, as the commitment to further open up capital accounts is irreversible after China joined the SDR, said Liu of ANZ
This July, China had opened its US$5.7 trillion interbank bond market to foreign central banks and sovereign wealth funds.
Liu said China should consider introducing more long-term funds to the market, for instance, allowing the US$36 trillion worth of global pension funds access to the bond market.
Beijing wants to make the yuan an “international currency” by 2020, and further loosen the management over foreign exchange to facilitate cross-border capital movement for individuals and companies, according to an article written by Governor Zhou in the People’s Daily in late November.
As China’s longest-serving central bank chief who has been sitting on the chair since 2002, Zhou is one of the most powerful names in the pro-reform camp and closely connected to the party’s core decision making body.
The target to “gradually realise the convertibility of yuan” was also highlighted in the 13th five-year plan proposal, issued in late October after top party leaders sketched out the blueprint for China’s next five-year development plan.
The year 2020 will be crucial as China is due to completes it 13th five-year plan by then, and celebrate the 100th founding anniversary for the ruling Communist Party in the next year.
However, it is worth noting that the concept of capital account convertibility held by the Chinese leadership is distinct from others.
During his speech in Washington this April, Zhou said the capital account convertibility China has targeted “is not based on the traditional concept of being fully or freely convertible”.
Instead, drawing lessons from the global financial crisis, China will adopt a concept of “managed convertibility”, by using “macroprudential measures” to limit risks from cross-border capital flows and to maintain the stable value of the currency and a safe financial environment.
“On the global stage, I do not think it is too challenging for China to retain its own agenda. The bigger problem comes from internal – it is much harder to break the deadlocks in the domestic system, particularly when it hurts the interest groups,” said Liu.