BEIJING – China tries to contain the yuan as it soars to three-year highs against the US dollar.
A stronger yuan makes Chinese goods relatively more expensive for overseas buyers and has raised concerns about the competitiveness of Chinese exports – a key driver of national economic growth.
The Chinese yuan traded slightly weaker against the US dollar on Wednesday after the People’s Bank of China set the yuan’s daily average at 6.3773 against the greenback. The move reversed with stronger fixings for six consecutive trading days since May 24, according to Wind Information.
The PBOC has tried to give the market a bigger role in determining the yuan exchange rate. However, the central bank maintains some control through daily midpoint fixings against the dollar, which can allow the yuan to rise or fall 2% from that level.
The weaker fix followed the central bank’s announcement late Monday that from June 15, financial institutions will have to increase the proportion of their foreign currency deposits by 2 percentage points – from the current 5% to 7%. The increase will force banks to hold more of their foreign currency holdings, reducing the amount that could be used to affect exchange rates.
It is the first such increase in 14 years since the last change in May 2007 – before the financial crisis – emphasized economists. They estimate the move will reduce the foreign currency available for long-term trading by $ 20 billion.
Analysts said the exact dollar amount is less significant than the central bank’s message that the yuan will not move in any direction of sustained strengthening against the US dollar.
“This is a strong signal,” said Xu Hongcai, deputy director of the Economics Policy Commission of the China Association of Policy Science. That comes from a CNBC translation of his remarks into Mandarin.
He pointed out that the adjustment was relatively large and represented a form of targeted tightening of monetary policy. The increase in the quota will limit speculative activity as financial institutions have to keep more money in their reserves, Xu said.
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Chinese authorities are trying to keep the economy growing steadily as the world tries to recover from the shock of the coronavirus pandemic last year. However, Beijing’s monetary policy has diverged from that of the US and the major developed countries, making mainland China investments more attractive to global investors.
The Chinese 10-year government bond yields around 3.07%, while its US counterpart has a significantly lower yield of around 1.62%.
The yield gap created a vicious circle with money flowing into yuan-denominated assets and strengthening the currency, which in turn attracted more foreign capital, Xu said.
Outlook for the yuan
In addition to announcing an increase in the foreign exchange ratio, the Chinese authorities have sent other messages to the public to prevent the yuan from moving large.
The yuan could strengthen and it could weaken, regulators said at a May 27 meeting attended by Liu Guoqiang, a PBOC lieutenant governor, and Wang Chunying, deputy director of the national foreign exchange regulator.
The exchange rate cannot be used as a tool, let alone to boost exports or offset the impact of rising commodity prices, the meeting’s participants said, according to an ad posted on the central bank’s website.
Separately, a former central bank director, Sheng Songcheng, told the state-run Xinhua News Agency on Sunday that the yuan is likely to “exceed” the US dollar and that these gains are unsustainable.
Analysts do not expect any major movements in the Chinese currency this year.
China Renaissance predicts the yuan will hold near 6.4 against the US dollar this year and next.
Macquarie expects the yuan to weaken slightly to 6.55 against the dollar on the back of growing expectations of tighter monetary policy in the US, a weakening trade surplus and new avenues for Chinese capital to exit.
In May, Morgan Stanley analysts revised their forecast to 6.48 yuan per dollar by the end of this year, compared to 6.25 yuan earlier. The investment bank had not provided an updated analysis by the end of Tuesday.
The Chinese yuan was trading near 6.386 against the greenback on Wednesday afternoon.
