Yuan pressure means China set to hold policy rate despite growing economic woes
- People’s Bank of China set to keep the interest rate on its one-year medium-term lending facility (MLF) unchanged at 2.75 per cent on Thursday
- The central bank surprised markets in August by lowering key interest rates to revive credit demand and prop up a slowing economy hurt by coronavirus shocks
China’s central bank is widely expected to pause its monetary easing efforts and keep the medium-term policy rate steady this month, a Reuters survey showed, as widening policy divergence with the US Federal Reserve could put further pressure on the Chinese yuan and risk capital outflows.
Some analysts said the economy could remain weak at least through until the end of the year.
In a poll of 28 market watchers this week, 27 respondents forecast the interest rate on the one-year medium-term lending facility (MLF) would stay unchanged at 2.75 per cent on Thursday, when the PBOC is anticipated to roll over 600 billion yuan (US$86.6 billion) worth of such loans.
Among them, 17 expect the PBOC to partially renew the maturing loans, while the other 10 project a full rollover.
One participant in the survey predicted a marginal interest rate reduction.
“With the yuan under recent weakening pressure, we don’t anticipate the PBOC making any further amendments to its one-year medium-term lending facility rate [this week],” analysts at ING said.
Some traders and analysts said authorities may hold off from easing in the near term, but they still expect some liquidity injection later this year due to heavy MLF maturity, which total 2.6 trillion yuan (US$375 billion) in the run-up to the year-end.
“We expect more reserve requirement ratio cuts in the coming months although we see no urgency for more imminent interest rate cuts,” said Tommy Xie, head of Greater China research at OCBC Bank.
Xie, along with some market traders, noted that inflationary pressures in China were very low by global standards, allowing the PBOC more room to manoeuvre on monetary policy if needed.
“We continue to see downside risks to the economic outlook as policymakers are only adding modest stimulus,” said Win Thin, global head of currency strategy at Brown Brothers Harriman.
China’s yuan steadied after slipping to a one-week low early on Wednesday, as hotter-than-expected US inflation raised bets for even more aggressive US Federal Reserve tightening.
The US dollar index recorded its biggest one-day percentage gain in two years after US consumer prices unexpectedly rose in August and underlying inflation accelerated.
That reinforced expectations the US Federal Reserve will deliver a third 75-basis-point rate increase next week.
The strong US dollar pressured emerging market currencies, prompting the PBOC to continue setting firmer-than-expected guidance to rein in the yuan’s weakness. The PBOC set the midpoint rate at 6.9116 per dollar, 190 pips or 0.27 per cent weaker than the previous fix of 6.8928, but was firmer than market projections.
In the spot market, the onshore yuan opened at 6.9654 per US dollar and fell to a low of 6.9738 at one point, the weakest since September 7. By midday, it was changing hands at 6.9645, 45 pips firmer than the previous late session close.
Its offshore counterpart followed suit by weakening to a one-week low of 6.9850 per US dollar in morning trade, after booking its worst session in a month overnight. It last traded at 6.9721 around midday.
Currency traders said both onshore and offshore yuan could test the psychologically critical 7 per dollar mark again soon if strength in the US dollar persists.
“It’s just a matter of time before the yuan breaches the key 7,” said a trader at a Chinese bank.
A second trader at a foreign bank noted that the market saw strong support around 6.97 per dollar, as some corporate clients convert their foreign exchange receipts into yuan as they bet state banks could step in to prop up the currency before the key threshold.
“The 7 psychological level is important to the yuan in the near term, as the abrupt breakthrough above 7 in the midst of strong US dollar rally will risk a one-way movement in the yuan market, which is the situation that the PBOC attempts to avoid, especially before the 20th party congress,” said Ken Cheung, chief Asian FX strategist at Mizuho Bank.
The politically significant party congress is scheduled to start on October 16.