China is resorting to measures not used since the global financial crisis to temper a rally in its currency as the country battles rising commodity prices and slowing growth, with analysts predicting more actions to come.
A move by the People’s Bank of China that will force lenders to hold more foreign currency indicates that policymakers want to rein in the renminbi’s gains after it touched its strongest level against the dollar in three years last week. That marked a reversal from the years of the Trump administration, which labelled Beijing a currency manipulator in 2019 after the renminbi weakened past the important Rmb7 per dollar level.
The central bank action, announced late on Monday, will raise Chinese financial institutions’ required reserves from 5 to 7 per cent of total foreign exchange deposits “in order to strengthen foreign exchange liquidity management”, according to the PBoC.
That marks the biggest such increase ever, analysts said, and the first since the global financial crisis. The strength of the renminbi has created a further headache for policymakers in China already grappling with soaring commodity prices and risks from high amounts of leverage across the economy.
China’s currency has strengthened almost 11 per cent against the dollar over the past 12 months. The onshore-traded renminbi was little-changed at Rmb6.3696 per greenback on Tuesday but analysts said more interventions in currency markets were likely.
“The move aims to cool down the onshore renminbi’s rapid appreciation by reducing [foreign currency] liquidity in the system,” said Becky Liu, China macro strategist at Standard Chartered, which estimated that the rise would sap about $20bn of liquidity from the country’s foreign exchange market.
The requirement will restrict the domestic supply of foreign currencies, making it harder to use dollars to purchase renminbi onshore, potentially easing demand for the Chinese currency.
“The PBoC’s action highlighted its stance against the rapid renminbi appreciation and hints [at] further forthcoming measures,” said Ken Cheung, chief Asian currency strategist at Mizuho Bank.
However, some policymakers in China have argued in favour of a stronger renminbi. A PBoC official this month wrote an editorial, which was subsequently deleted, arguing that the central bank should let the currency appreciate to counter surging global commodity prices. A stronger Chinese currency could make its imports of overseas raw materials cheaper.
Higher commodity prices have pushed up factory gate prices in China and stoked fears of inflation. A cabinet meeting chaired by Premier Li Keqiang last month said measures should be taken to stop inflation of producer prices, which rose 6.8 per cent in April, passing through to consumer price inflation, which remains low. Producer prices fell throughout most of 2020.
There are also signs that China’s strong economic recovery from Covid-19 is cooling off. On a quarter-on-quarter basis, the economy expanded just 0.6 per cent in the first three months of the year, according to the National Bureau of Statistics, well below expectations.
China’s exports, which in theory benefit from a weak renminbi, have boomed over the past year despite the currency strengthening. Exports rose 32 per cent year on year in dollar terms in April, reflecting China’s dominance of global trade given its rapid recovery from the pandemic.
However, “the broad renminbi strength will likely undermine the competitiveness of China’s export sector”, Cheung added.
Source: Economy - ft.com
