China ‘must prevent reversal’ of hot money flows as US kicks off monetary tapering, former official warns

Beijing says it has the policy tools to handle the effects of the Fed’s gradual removal of the monetary stimulus it has been providing for the US economy

But there are concerns among investors that this could result in a more unstable yuan, with large amounts of cash rushing into and out of the Chinese market

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Hot money flows could threaten the yuan’s stability. Photo: AFP

Published: 10:15pm, 3 Nov 2021Updated: 1:03am, 4 Nov 2021

China should be mindful of a potential reversal of capital flows as the US Federal Open Market Committee gets ready to kick off its monetary tapering by dialing back US$120 billion worth of monthly bond purchases, a former Chinese central bank official has warned.

There are rising concerns among investors that the tapering exercise will result in a more unstable yuan, as large amounts of capital – i.e. hot money – will rush into the Chinese market as investors bet on the yuan’s one-way appreciation before the tapering is completed, but then rush out again to take advantage of a stronger US dollar after the tapering is finalised.

There is already an influx of foreign investment in Chinese bond and stock markets.

Despite the Chinese government’s assurances that it was ready to handle the effects of the US’s tapering, Sheng Songcheng, the former head of surveys and statistics at the People’s Bank of China, has warned of likely problems stemming from hot money flows.

[China has] more policy tools than the United States

Prof. Sheng Songcheng

“[Cross-border] capital flows could be first impacted,” Sheng, now a professor at the China Europe International Business School, said during an online lecture held by Tsinghua University on Tuesday. “We must prevent a reversal of capital flows, as the US tapering will narrow the bilateral interest rate gap.

“This is one area where we must make preparations.”

With China opening its finance sector wider, foreign holdings of Chinese bonds increased for 34 straight months, with a net increase of 88.4 billion yuan (US$13.8 billion) in September and a total size of 3.49 trillion yuan (US$545 billion) by the end of September.

The upcoming Fed tapering has evoked the memory of huge market volatility during previous exits of US quantitative easing, including a 2015 stock market rout that erased trillions of yuan from Chinese portfolios, with massive capital outflows and rapid yuan depreciation.