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The PBOC will sell 10 billion yuan (US$1.4 billion) each in three-month bills and one-year bills in Hong Kong next Wednesday. Photo: Sam Tsang

Chinese central bank’s step into Hong Kong to ‘improve transparency and liquidity’

  • The People’s Bank of China’s decision to control the offshore yuan exchange rate through bill sales in Hong Kong is being applauded by traders as helping to improve transparency of central bank efforts to manage market liquidity

The planned bill sale by the People’s Bank of China (PBOC) in Hong Kong next week, the central bank’s first step towards creating a offshore monetary policy, will improve market transparency and help participants gauge the outlook of yuan liquidity conditions, analysts said.

The PBOC will sell 10 billion yuan (US$1.4 billion) each in three-month bills and one-year bills in Hong Kong next Wednesday, paving the way for a more regular bill issuance programme depending on demand.

PBOC bill sales in the city will result in a withdrawal of yuan funds from the banking system, creating a monetary policy tool that will allow the central bank to more easily and cheaply manage offshore yuan liquidity conditions and so control the currency’s exchange rate.

Tighter yuan liquidity would raise the costs for traders borrowing yuan funds to buy dollar-denominated assets. That could force many out of their positions, supporting the value of the yuan.

The yuan jumped 1 per cent in two days to 6.9053 per dollar in early afternoon trade on Friday, moving away from the psychologically important threshold of 7 per dollar that it has not breached since the global financial crisis a decade ago.

Future announcements by the PBOC on the size, frequency and auction yield of future bill sales are likely to indicate the central bank’s stance toward liquidity conditions, which would allow it to better manage market expectations, analysts said.

“The PBOC’s management of yuan liquidity in Hong Kong is becoming more official and transparent,” said Frances Cheung, head of macro strategy, Asia at Westpac. “This will help with market expectations of the outlook for liquidity conditions.”

Next week’s bill sale of 20 billion yuan in total would only result in relatively small liquidity tightening compared to total outstanding offshore yuan deposits of about 1 trillion yuan, including in offshore yuan centres in Hong Kong, Taiwan and South Korea, analysts said. Yuan deposits in Hong Kong, the biggest offshore yuan centre, rose slightly to 618 billion yuan in August from 607 billion yuan in July, according to data from the Hong Kong Monetary Authority.

“We expect the PBOC to maintain reasonable CNH [offshore yuan] liquidity conditions during/after bill issuance, to minimise the disruption to investors that are funding onshore assets using the CNH liquidity pool,” said Becky Liu, Head of China Macro Strategy, Standard Chartered Hong Kong.

The issuance of central bank bills in Hong Kong will also help develop a broader yuan market outside mainland China. Photo: Alamy

Hong Kong became China’s offshore yuan base in 2010 as China’s leaders needed a friendly testing ground for loosening tightly controlled interest and exchange rates without threatening domestic policymaking. Hong Kong, a special Chinese territory since 1997, offers China the benefits of both security and expertise in freewheeling international markets.

The trade war with the United States has made Beijing realise that it needs to continue to make the yuan more convertible to achieve its ambitions to expand the international use of the yuan so that it can someday challenge the US dollar’s global dominance.

The issuance of central bank bills in Hong Kong will also help develop a broader yuan market outside the mainland, helping enrich the spectrum of highly rated, yuan-denominated financial products available to investors.

Contrary to expectations that the PBOC would come out with administrative measures to ward off short sellers and capital outflows, the Hong Kong bill sales strategy is a market-driven trading mechanism that underscores the central bank’s changing approach on stabilising the currency value, analysts said.

Chinese authorities are also likely to be more reluctant to tighten corporates’ cross-border funding channels at the moment, as part of government efforts to support foreign corporates to maintain or further expand operations in China amid escalating trade tensions, Standard Chartered’s Liu said.

Local and Chinese banks, foreign public sector investors, and foreign asset managers were relieved that the PBOC chose not to engineer a cash crunch to support the yuan, as it did last year, when the overnight CNH Hibor, a gauge of offshore yuan funding in the interbank market, soared 1,572 basis points in June 2017.

Such interventionist steps were criticised for being harsh and obstructive to real money investors, not just speculative short sellers.

“If you squeeze market rates in a opaque way, it could just prove that yuan depreciation is out of control and actually worsen market sentiment,” said Carie Li, a Hong Kong-based economist with OCBC Wing Hang Bank.