China’s falling yuan may be policy-driven
HONG KONG (MarketWatch) — The surprising decline of China’s currency in the past five days have triggered market concerns, raising speculations that China is trying to prevent further hot-money inflows and tighten liquidity against the backdrop of slowing economic growth.
In Hong Kong’s offshore market, the dollar rose 0.3% to 6.13 yuan on Tuesday, according to FactSet data. It has gained 0.53% against the yuan in the past week.
In Shanghai, the People’s Bank of China fixed the midpoint for yuan trading at 6.1184 yuan per dollar, slightly lower than 6.1189 the previous day. Under Chinese forex-trading rules, the dollar is halted from moving more than 1% on either side of the midpoint.
The yuan in Shanghai trading had posted a string of five consecutive losses as of Monday, marking its biggest weekly decline against the dollar since January 2012.
The rarely seen weakness in the yuan has surprised markets and sparked questions about China’s policy outlook at a time when the country’s financial system is flooded with liquidity.
A report published Monday on Xinhua08.com, a financial-services site run by China’s state Xinhua News Agency, warned of the excessive liquidity caused by cross-border carry trade and excessive capital inflows.
“Expectations of an appreciating yuan, and the yield spreads between the yuan and foreign-currency assets, have encouraged carry-trade activities to grow, which have worsened already excessive liquidity in China and offset the central bank’s efforts to drain the money markets after the Lunar New Year Holiday,” said Liu Dongliang, a senior analyst for China Merchants Bank and a contributing analyst for Xinhua08.
In its latest move to tighten liquidity, the People’s Bank of China on Tuesday drained another 100 billion yuan ($16.4 billion) from the money markets via bond repurchases. Last week, the central bank withdrew 108 billion yuan from the banking system.
Liu said the central bank’s guidance on a depreciating yuan may be aimed at warning traders of currency risks and driving away speculative capital, while also paving the way for the future reform on China’s exchange-rate policy with increased two-way volatility.
Some foreign analysts also cited investors’ concerns about the increasing risks of China’s trust-credit products as a reason for the selloff in yuan.
Ashraf Laidi, chief global Strategist for City Index, said investors’ fleeing from the yuan-carry trade as Chinese bonds yields declined may contribute to the Chinese currency’s weakness.
“The prolonged slowdown in China’s economy is complicating the solvency of trust-credit products tied to the mining industry, and thereby impacting the credit chain,” said Laidi in a recent note, noting that China’s five-year credit default swaps have already climbed over 20 basis points from December lows.
“Despite perceptions of Beijing’s capacity to bail out these financial institutions, there is a limit onto how far it can go,” he said.
However, Liu expected that the depreciation of the yuan won’t last long, as the National People’s Congress is due to convene next month.
In the past, the fixings of the yuan versus the dollar tended to move higher during the meeting, when the Communist Party usually steps up efforts to maintain economic growth and social stability.
“Yuan might resume its upward trend after mid-March, “ Liu said.