PBC worries about speculative short yuan positions running out | Photo credit: Reuters
After spending an entire year trying to steady a falling yuan, China’s central bank is suddenly facing the opposite problem and is resorting to subtle methods to keep the currency from rising too fast.
The usually restrained yuan strengthened 1.3% against the dollar in August, recouping losses suffered in the first half of the year. On Friday, it looked set for a fifth consecutive weekly gain, the longest winning streak in over three years.
Although the underlying factors domestically – a weak economy and capital flight – have not changed, rising prospects of a rate cut by the Federal Reserve, thereby weakening the dollar, and a rise in the Japanese yen have supported the yuan.
Meanwhile, Chinese officials have worked behind the scenes to ensure the currency does not suddenly surge, which could rattle fragile domestic financial markets and hurt exporters. They surveyed the market to assess pressure and quietly eased restrictions on gold imports and trading positions in yuan for some banks.
‘Beware of volatility’
“The government is less concerned about depreciation but is cautious about foreign exchange volatility,” said Gary Ng, senior Asia Pacific economist at Natixis.
“While pressure on the yuan may ease once the Fed eventually cuts interest rates, there could be a sudden and significant movement in capital flows.”
One reason the People’s Bank of China (PBOC) is concerned is the build-up of speculative short yuan positions during the currency’s steady decline since early 2023, which could end in a disorderly unwind if the currency rises sharply.
Foreign companies operating in China, domestic exporters and investors have converted yuan into dollars to get better returns, a practice known in the market as yuan carry trade.
Macquarie Group analysts estimate that exporters and multinationals will accumulate more than $500 billion in foreign currency holdings by 2022.
“As the yuan’s price rises … concerns may arise about a possible collapse of the yuan carry trade and shocks to financial markets,” said Zhu Chaoping, global market strategist at JPMorgan Asset Management.
China’s currency regulator, the State Administration of Foreign Exchange (SAFE), and the PBOC have not yet responded to Reuters requests for comment.
Stop the Stampede
SAFE last week surveyed banks about their clients’ foreign exchange conversion ratios (the proportion of revenues converted by exporters into yuan) to gauge the surge in yuan purchases when the currency’s value rises, two of the people told Reuters.
“FX settlement is the issue everyone in the market is most concerned about, other than the Fed interest rate cut,” said Liu Yang, general manager of the financial market business department at mineral exporter Zheshang Development Group.
“After all, exports are the single major driver of China’s economy, one of its traditional ‘troika’ (traditional growth engines), and regulators do not want the yuan to appreciate too rapidly and substantially weaken the competitiveness of export products.”
In addition, two people told Reuters that guidelines imposed last year to ban banks from holding short yuan positions at the end of a trading day have been relaxed for some banks.
Chinese banks have also been given new gold import quotas by the central bank. Gold imports are usually cut when the yuan faces depreciation pressure. Analysts said these moves are subtle, and along with the trend in the PBOC’s daily benchmark guidance setting for the yuan, point to a desire to control volatility rather than simply lock in gains.