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Why China’s central bank is shoring up the yuan

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The Chinese yuan has tumbled to two-year lows against the U.S. dollar in the previous few weeks.

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BEIJING — China’s central bank has sent a robust signal it desires to keep the Chinese yuan from weakening too quickly against the U.S. dollar, economists said.

For a second time this yr, the People’s Bank of China announced Monday it would cut back the quantity of foreign currency banks have to hold.

Such moves theoretically reduce the weakening pressure on the yuan, which has tumbled by greater than 8% this yr to two-year lows against the U.S. dollar.

Chinese authorities typically emphasize the yuan’s level versus a basket of currencies, against which the yuan has strengthened by about 1% over the past three months.

Nevertheless, Beijing’s latest actions show how essential the yuan-dollar exchange rate still is, Nomura’s chief China economist Ting Lu and a team said in a report Monday.

They gave two reasons:

  • “First, in a yr of the once-in-a-decade leadership reshuffle and with elevated US-China tensions, Chinese leaders especially care about RMB’s bilateral exchange rate with USD because they imagine RMB/USD by some means reflects relative economic and political strength.
  • “Second, a giant depreciation of RMB/USD could dent domestic sentiment and speed up capital flight.”

China’s ruling Communist Party is about in October to pick out a recent group of leaders, while solidifying President Xi Jinping’s power.

Tensions between the U.S. and China have escalated within the last several years, leading to tariffs and sanctions on Chinese tech firms.

Meanwhile, China’s economic growth has slowed within the last three years, especially with the shock of the pandemic in 2020. Tighter Covid controls this yr, including a two-month lockdown of Shanghai, have prompted many economists to chop their GDP forecasts to close 3%.

That economic slowdown has contributed to the weakening yuan, which may also help make Chinese exports cheaper to buyers within the U.S. and other countries.

The U.S. dollar has strengthened significantly this yr because the U.S. Federal Reserve aggressively tightened monetary policy.

As well as, the greenback — as measured by the U.S. dollar index — has benefited from 20-year lows within the euro and an analogous plunge within the Japanese yen.

Levels to observe

“We expect the PBOC might need tolerance for further CNY depreciation against the USD, especially because the broad USD continues to strengthen, though they may wish to avoid continued and too fast one-way depreciation if possible,” Goldman Sachs analyst Maggie Wei and a team said in a report Monday.

The analysts said they expect the yuan to depreciate to 7 against the dollar over the subsequent three months. Nomura’s foreign exchange analysts forecast a 7.2 level by the tip of the yr.

The yuan last traded near 7.2 against the dollar around May 2020 and September 2019, in accordance with Wind Information data.

“I do not think it’ll go far beyond [7], actually form of beyond the 7.2 that we saw in the course of the trade war,” Julian Evans-Pritchard, senior China economist at Capital Economics said Tuesday on CNBC’s “Squawk Box Asia.”

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“I feel that is the important thing threshold,” he said. “I feel the rationale they’re reluctant to permit that to occur is, if it goes beyond that level, then expectations for the currency risk becoming unanchored. You risk seeing much larger-scale capital outflows.”

The PBOC on Tuesday set the yuan’s midpoint against the dollar at 6.9096, the weakest since Aug. 25, 2020, in accordance with Wind Information. China’s central bank loosely controls the yuan by setting its every day trading midpoint based on recent price levels.

PBOC: Don’t bet on a particular point

The PBOC’s latest cut to the foreign currency reserve ratio — to six% from 8% — is about to take effect Sept. 15, in accordance with an announcement Monday on the central bank’s website.

Earlier on Monday, PBOC Deputy Governor Liu Guoqiang said that within the short term, the currency should fluctuate in two directions and other people “shouldn’t bet on a particular point.”

That is in accordance with a CNBC translation of a Chinese transcript of Liu’s remarks at a press event on economic policy.

For the long term, Liu maintained Beijing’s hopes for greater international use of the yuan. “In the long run the world’s recognition of the yuan will proceed to extend,” he said.

— CNBC’s Abigail Ng contributed to this report.

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