On November 29th, the spot exchange rate of the Chinese Yuan (CNY) against the US Dollar in the interbank market once again hit the upper limit of the 1% trading band, marking the 22nd instance of this occurring within the last 26 trading sessions. Just a year prior, the CNY/USD exchange rate had been in a prolonged downtrend for 12 consecutive trading days, frequently approaching or touching the lower limit during the middle of this year.
Contrary to expectations, this recent surge in the CNY exchange rate doesn’t seem to indicate a rapid inflow of "hot money." What's intriguing is that, unlike previous episodes of one-way appreciation, the People's Bank of China (PBOC) has continued to engage in foreign exchange purchases to stabilize the exchange rate. During this period of appreciation, despite maintaining a largely stable midpoint rate, the PBOC has refrained from significant market intervention. Consequently, the recent 'upper limit' situations have been relatively calm.
However, commercial banks haven't shared the same composure as the central bank. Some banks have exceeded the interbank market's trading bands by 1% through customer exchange rates, adjusting their foreign exchange settlement and sale demands. Others have effectively bypassed trading range limitations via short-term RMB forward transactions.
These actions aren't long-term solutions to the "dysfunction" of the foreign exchange market. On one hand, the PBOC’s reduced intervention in the foreign exchange market has led to sluggish growth in base money. Meanwhile, through rolling reverse repo operations in the open market to release liquidity, the PBOC aims to enhance the independence of monetary policy. Yet, faced with bank and corporate settlements, tight interbank liquidity, and concerns over macroeconomic and financial risks, the PBOC's ability to smoothly navigate this shift remains uncertain.
The transition from CNY depreciation to appreciation happened rather abruptly, with a pace that surpassed many analysts’ forecasts. A state-owned bank trader remarked, "In July, clients anticipated the CNY would continue to weaken, but it unexpectedly appreciated in August. While the August-September appreciation might be linked to the Federal Reserve's QE3 announcement, the October rise coinciding with a stronger dollar is harder to explain. This situation has caused panic in the market, leading to a spike in client settlements and banks selling dollars, accelerating the appreciation."
Since the first occurrence of the "daily limit" on October 25th, the CNY/USD spot exchange rate has climbed from 6.24 to 6.22, appreciating by approximately 0.4%. The midpoint rate has risen from 6.3047 to 6.2910 on November 29th, appreciating by around 0.2%.
Many analysts attribute the accelerated CNY appreciation to the negative impact of the Fed's September QE3 announcement, suggesting a reinflow of hot money. However, the stock market's fall from 2,125 points when QE3 was announced to below 2,000 points, combined with the property market's continued regulation, undermines the notion of significant "hot money" inflows.
Data from October bank foreign exchange settlements reveal that while the surplus increased, both foreign exchange settlements and sales decreased—by 9.1% and 10.6%, respectively. The decline in foreign exchange sales exceeded the reduction in settlements, keeping the overall settlement-sale balance in October in deficit.
Cross-border income and expenditure figures also reflect a net outflow. Domestic banks reported a 4.9% month-on-month drop in foreign-related income, a 6.3% decrease in expenditures, and a $5.3 billion deficit, marking two consecutive months of outflows. Mainland China continued to experience a net outflow of funds to Hong Kong.
"The statistics from October do not support the conclusion that China's cross-border capital inflow pressure has significantly increased," a spokesperson from the State Administration of Foreign Exchange noted in response to a press inquiry on November 21st.
Additionally, since October, several banks have cut small foreign currency deposit rates. The adjusted one-year US dollar deposit interest rate stands at only 0.70%, potentially driving customers to expedite foreign exchange settlements.
The sudden increase in US dollar supply, coupled with the central bank's lack of renewed purchases, has created extreme market imbalances. Banks have a dollar position limit and must remain balanced, yet the central bank has ceased buying dollars. Nevertheless, the central bank continues to control the exchange rate through the midpoint price. Last year's "ten consecutive losses" occurred due to the central bank setting the midpoint price too high. Currently, the central bank has set the midpoint price too low, with the daily midpoint significantly lower than previous levels. The closing price each day results in the spot exchange rate increasing at the start of trading. Unless the central bank intervenes, this trend will persist, a state-owned trader noted.
Banks, accustomed to long-term exchange rate pegging, have resorted to various methods to circumvent restrictions. Some banks have raised their quoted prices to customers, offering rates slightly below the daily limit. For example, with a daily limit of 6.2289, a bank might quote customers at 6.2250, still allowing settlement at that rate.
"Banks' quotes to customers are more market-driven than interbank spot rates. This is also a form of self-protection for the bank. This practice is more common among larger banks," explained a state-owned trader.
Simultaneously, some banks have utilized short-term RMB forward transactions to bypass intraday trading range limits. "One-day USD/RMB forward trades were rare previously but have become increasingly common recently. Since spot markets settle two days after trading and forward transactions settle three days later, this allows the spot exchange rate to reach higher levels. For instance, the daily limit might be 6.2230, but the forward price could be 6.2220 or higher," stated a foreign-invested trader.
On November 29th, the USD/RMB forward exchange rate opened at 6.2200, 81 basis points lower than the spot price of 6.2281. The intraday low reached 6.2030, 256.4 points below the spot price. "Banks are returning customers, and while profits have been smoothed or lost, there’s still no buying even if spreads drop further," the trader added.
To sell US dollars, another strategy banks employ involves indirect currency swaps between the CNY and non-US dollar currencies like the Euro, Japanese Yen, or Hong Kong Dollar, as these pairs have wider floating ranges.
Beyond self-help, banks are also capitalizing on the CNY's appreciation trend for "self-interest." Recently, some banks and major import-paying clients have seen a resurgence in arbitrage combinations. These involve splitting an import purchase and payment into three parts: the customer uses RMB to purchase foreign exchange, then takes out a foreign currency loan, while simultaneously locking in the exchange rate through a long-term forward purchase. "Banks bring in deposits, account managers earn bonuses, and companies benefit. It’s a win-win," a shareholder disclosed.
Unlike previous unilateral CNY appreciation periods, the current long-term appreciation differs in that the CNY has appreciated significantly in the short term but has depreciated over the long haul. This makes the aforementioned trading model no longer "risk-free arbitrage."
"Although RMB deposit interest rates remain high and foreign currency financing rates are low, now the long-term forward purchases mean higher costs for customers, and the interest on RMB deposits isn’t enough to cover the cost of foreign currency financing and losses from forward purchases. It’s not cost-effective, but some banks guide customers to do this to generate large deposit and loan businesses. Some banks even return the proceeds from long-term forward purchases directly to enterprises as financial expenses," said a state-owned banker.
The exchange rate seems to be returning to a "dual-track system"?
While the CNY exchange rate has returned to an appreciating trajectory since late August, foreign exchange reserves haven’t rebounded sharply. Particularly, the central bank’s foreign exchange holdings have even declined. Zhang Bin, a researcher at the Institute of Social Economics of the Chinese Academy of Social Sciences, pointed out that changes in the central bank’s foreign exchange holdings reflect the scale of its intervention in the foreign exchange market: from early 2003 to September 2011, the central bank purchased an average of 207.5 billion yuan in the foreign exchange market each month, equivalent to the US dollar; from October 2011 to August 2012, the central bank’s average monthly net intervention in the foreign exchange market was only 10 billion US dollars. This indicates a downward trend in the central bank’s intervention in the foreign exchange market.
In recent months, the central bank’s foreign exchange purchases have been significantly smaller than those of other financial institutions. In September, total financial institution foreign exchange holdings increased by 130.7 billion yuan, but the central bank’s foreign exchange account increased by only 2.04 billion yuan. In October, total financial institution foreign exchange holdings increased by 21.625 billion yuan, and the central bank’s foreign exchange account increased by only 1.084 billion yuan, less than half of September’s increase.
"If the central bank does not intervene, its foreign exchange and base money supply will not increase, and it can only rely on reverse repos to provide liquidity through rolling," said Xie Yaxuan, head of macroeconomic research at China Merchants Securities Research and Development Center.
On one hand, reducing intervention in the foreign exchange market and decreasing passive base money creation; on the other hand, normalizing reverse repo operations to actively adjust market liquidity—the central bank’s monetary policy control since the second half of this year undoubtedly demonstrates a more independent stance.
Zhang Bin believes that in order to maintain exchange rate stability, monetary authorities have continuously intervened in the foreign exchange market in recent years, leading to a large amount of base money, which has become the source of macroeconomic overheating and rising price pressures. Interest rate policies used by monetary authorities have also been severely constrained.
The CNY is under renewed appreciation pressure. Will policymakers reduce intervention to allow more drastic fluctuations, or continue market intervention to seek exchange rate stability as usual? This tests the wisdom of policymakers.
"A good system is hard to come by. If the intervention in the exchange rate formation mechanism remains mere talk due to temporary gains and losses, the reform of the exchange rate formation mechanism remains empty talk. It should give more confidence to the market. I believe that in the medium to long term, the fundamental factors of the market will adjust the CNY exchange rate to a reasonable level," Zhang Bin continued.
From the current perspective, the central bank is still "holding firm" and not intervening. However, the frequent and endless "upper limit" scenarios for the CNY in the midpoint rate have become an unbearable burden for the market and may also lead to the exchange rate returning to a "dual-track system."
CICC noted that in the short term, a higher trade surplus, continuous inflow of FDI, and the slow recovery of the European and American economies will make it difficult to reduce the demand for foreign exchange settlement. If the central bank does not actively purchase foreign currency by intervening, it will need to rely on reverse repos to increase interbank liquidity. This could temporarily keep the RMB money market interest rates high, further pushing up the RMB, which is not conducive to economic recovery and increases the debt-to-asset ratio of the entire society in the long run.
"Where the central bank will go in the future—whether it will endure pressure to maintain the independence of monetary policy or return to the old path of intervention—is still unknown. However, whether or not the central bank chooses to intervene will not affect the basic trend of the CNY exchange rate continuing to rise in the fourth quarter," Xie Yaxuan said.
Smd Led Chip,Led Chip Smd 5050,Rgb Smd Led Chip,High Performance Smd Led Chip
Shenzhen Huangtai Photoelectric Co.,Ltd. , https://www.huangtailed.com