China’s central bank winning its numbers game over currency

Foreign exchange reserves forecast to rise again as analysts highlight success in hitting targets for yuan

PUBLISHED : Wednesday, 06 September, 2017, 5:34pm
UPDATED : Wednesday, 06 September, 2017, 10:15pm

China is expected to announce another monthly rise in its foreign exchange reserves on Thursday in the latest sign that the country’s central bank has won the battle to curb the country’s capital exodus and defend the exchange rate of the yuan.

Economists said the continued rise in the yuan marked a complete change in sentiment regarding the currency and some predicted that the bank may loosen currency controls.

Two key numbers highlight the People’s Bank of China’s goals: the number seven, referring to the exchange rate between dollar and the yuan, and the number three – namely the US$3 trillion line in China’s reserves.

Late last year and early this year both looked like big tests as the yuan traded at a level of 6.95 last Christmas and the foreign exchange reserves briefly dipped below US$3 trillion at the end of January.

On Wednesday, the yuan had strengthened against the greenback to 6.53, helped by a weakening dollar.

Among all 25 economists surveyed by Bloomberg, all of them expected that China’s reserves at the end of August would be above US$3 trillion and only five of them expected a slight fall from the end of July.

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“[China’s] battle against the depreciation expectations has been successful, just like the one against capital outflows,” Larry Hu, chief China economist of Macquarie Securities wrote in a note.

He added that the yuan exchange rate could appreciate further to 6.5 as the end of 2017 and has a “pretty high” chance of reaching 6.4 in the following 12 months.

Liu Jian, an analyst with the Bank of Communications in Shanghai, said market sentiment about the yuan has completely changed from a few months earlier as the exchange rate easily cleared key hurdles of 6.8, 6.7 and 6.6, prompting those shorting the yuan to close their positions and exporters to sell dollars for yuan “as early as possible”.

The concerns about yuan’s prospects, once “deeply planted in investors’ minds”, have largely gone, relieving pressure on capital outflows for China and reducing financial risks, Liu said.

The rise in yuan value and the foreign exchange reserves follow a series of measures from Beijing that marked a move away from liberalisation. These included draconian controls over outbound payments and remittances and the adoption of a murky counter cyclical factor in setting the central parity price of yuan on every trading day.

With the yuan value and the foreign reserve size falling within the safe lines, China may loosen its restrictions on individual foreign exchange purchases the coming months, China International Capital Corp economists led by Liang Hong wrote in a note this week.

China may again see net capital inflows in the coming years, a factor that could lead to “revaluation” of onshore assets, CICC economists added.

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A steady appreciation in the yuan against the dollar has also helped the Chinese government to defy allegations from the US President Donald Trump that China has been deliberately keeping the yuan cheap to gain unfair advantages in trade.

While the yuan has gained nearly 6 per cent in 2017 against the greenback, it is mainly the result of dollar weakness, as the yuan has been weakening against the euro and even a trade-weighted basket of currencies this year, said Shen Jianguang, the chief economist of Mizuho Securities Asia.

“The central bank may soon start to worry about excessive appreciation in yuan against the dollar,” said Shen. “It would relax capital outflow controls.”