China’s rapid yuan rise and wave of hot money inflows prompt concerns of asset bubbles and inflation
- A more flexible yuan exchange rate has increased China’s monetary policy leeway, but strong capital inflows could result in excess credit expansion
- Large amounts of extra money in the China market could increase demand for housing, stocks, commodities and other assets, driving up prices to unsustainable levels
The rapid strengthening of the yuan exchange rate in recent weeks has triggered a debate in China about whether Beijing’s recent moves to open up its domestic financial markets to more foreign investment might have resulted in an unwelcome wave of speculative “hot money” inflows that could result in imported inflation and asset bubbles.
“We must stay alert to the large influx of short-term capital. It is right to maintain the opening-up, but that doesn’t mean we should let all the capital in,” Sheng Songcheng, former statistics chief at the People’s Bank of China (PBOC), wrote in an article published last weekend.
“If we let [short-term capital] in without preconditions, and restrict outflows at the same time, it is actually not good for us.”
Sheng was referring to the possibility that large amounts of extra money in the China market could increase demand for housing, stocks, commodities and other assets, driving up prices to unsustainable levels. Such “asset bubbles” can result in significant economic damage when they burst and prices rapidly decline.
Sheng’s warning comes amid a strong increase in capital inflows into China, as major central banks from a number of countries have injected an unprecedented amount of liquidity into their financial systems to offset the economic damage caused by the coronavirus pandemic. For instance, the United States Federal Reserve’s balance sheet has almost doubled to US$7 trillion since the beginning of the year.