Download Chinese Currency Movements in Late

NS3040
Fall Term 2015
Chinese Currency Movements:
February/March 2014
Chinese Currency Movements I
• Late February 2014 China’s yuan fell steadily against the
U.S. dollar
• Appears the Chinese central bank deliberately pushing
the currency lower
• Why the sudden devaluation?
• Currently yuan trades within a tight range set by the
central bank every day
• Short-term traders and increasing demand almost
constantly pushing currency higher within that range
• By devaluating the currency’s value the central bank is
trying to discourage (one way) speculation on the
currency
• With fewer speculators trading in the yuan China hopes
to have an easier path to widen the yuan’s trading range
further
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• In longer term make the yuan a free-floating currency
Chinese Currency Movements II
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Chinese Currency Movements III
• Why does China want to free its currency in the long
term?
• Having a freely traded currency makes it easier for the yuan to
become more prominent in trade and payments internationally
• A freely convertible currency also makes the yuan a more
attractive reserve currency for Central Banks
• Other reasons –
• China is trying to push its economy away from relying so much
on exports and investment
• Instead it wants more of its growth to come from domestic
demand
• Making the yuan behave more like a market driven currency fits
into this broader plan.
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Chinese Currency Movements IV
• More conjectural reason:
• Concerns over shadow banking operations
• Since December 2012 the People’s Bank of China (PBoC) has
tried to limit activities in the shadow banking sector
• Aim is to prevent high-interest loans from triggering a wave of
defaults among local government borrowers
• Such efforts have not been effective
• Shadow Loans (entrusted loans) rose to $64.7 billion in January
2014 almost double that in January 2013
• Avoiding the central bank’s pressure to liquidate shadow
financial assets (which offer attractive returns) banks are opting
to sell off lower yielding enterprise bonds (debt issued by stateowned companies)
• Result – raising cost of financing to companies and local
governments.
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Chinese Currency Movements V
• These actions squeeze the supply of credit to the “real”
economy while shadow finance segment is nourished by
inflows of capital that slip through holes in the country’s
capital account
• Steps in the yuan carry-trade
• Borrow abroad at around 1.0% interest
• Change money into yuan and bring it to mainland
• There receive 10 to 12% by lending it to a trust or
• 20% by putting it with an underground bank
• On top of that capered the expected yuan appreciation
• Evidence
• Signs of over-invoicing of exports
• 44% in survey felt that fake invoicing was on the increase
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Chinese Currency Movements VI
Summing up
• PBoC wants to stifle one way bets on yuan
• If successful will slow speculative activity and with it
destabilizing capital inflows.
• Bank knows that if it were to try to stop inflow of illegal
capital entirely it might trigger a wave of financial
defaults it has been trying to avoid in the first place
• Gradual approach using exchange rate flexibility to
generate a market response seems to suit Bank’s
objectives for now
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