After nearly a decade in which robust trade surpluses underpinned reliable appreciation of China’s currency, the renminbi is under pressure from a bout of capital outflow and the knock-on effects of falls in the euro, yen and emerging market currencies.
The renminbi has fallen 0.7 per cent so far this year to about Rmb6.25 per US dollar, following a drop of 2.4 per cent in 2014 — its first full year of significant depreciation since the central bank ended its strict dollar peg in 2005.
Yet the fall has occurred in spite of a swelling of China’s trade surplus, which propelled the renminbi’s 37 per cent rise between 2005 and 2013.
In December China posted its second-biggest monthly trade surplus on record, but foreign exchange purchases by its banks — a rough proxy for capital inflows — fell Rmb118bn ($19bn), the largest monthly decline on record.
Ordinarily a trade surplus leads to larger bank forex purchases, as exporters swap dollars from overseas customers for local currency. But exporters expect the renminbi to fall and are no longer converting dollar receipts, analysts say. In addition investment-linked forex outflows are offsetting the impact of inflows from trade.
According to currency traders the trade surplus is no longer the driving force behind exchange rate movements and capital flows. Instead expectations of rising US interest rates, combined with quantitative easing by European and Japanese central banks, have propelled outflows from emerging markets and into dollar assets.
“It used to be everyone just looked at trade data. Now people are looking at the interest rates and the euro,” says a trader at a small Chinese commercial bank in Shanghai.
Indeed the latest bout of weakness shows that in spite of strict capital controls, which limit the ability of short-term funds to slosh in and out of the country, China is not immune to the forces that have battered other emerging market currencies.
After years in which investors clamoured to find ways to circumvent controls and bring money into the country, funds are flowing in the opposite direction. Outbound foreign direct investment outstripped inbound FDI for the first time last year, a trend that is set to accelerate as Chinese companies increase overseas acquisitions.
Financial outflows are also picking up. China posted a combined $25bn deficit on the financial account in the second and third quarters, balance of payments data show. Fourth-quarter data are expected to show further outflows.
“Renminbi weakness has further to run,” says Wang Yifeng, head of investment at Yaozhi Asset Management in Shanghai. “Europe, China and emerging markets are all showing economic weakness, while the US is outperforming. The link to the dollar’s global strength is very intimate.”
Consensus forecasts have the renminbi at 6.4 to 6.5 by the year-end, a fall of 3-5 per cent from last year’s close.
Analysts say the reversal of expectations for the currency partially explains the lack of enthusiasm for the much-vaunted Shanghai-Hong Kong Stock Connect. Two months after the launch of a programme that offers foreign investors unprecedented access to the Shanghai stock market — and in spite of the world-beating performance of mainland shares — less than a third of the Rmb300bn quota has been used.
To be sure, the renminbi’s fall is tiny compared with other currencies such as the euro, yen and Singapore dollar. Indeed, in spite of the renminbi’s decline against the dollar, its nominal effective exchange rate — a gauge of its value against a trade-weighted basket of currencies — rose 10 per cent in the second half of last year, data from the Bank for International Settlements show.
Some analysts consider the renminbi’s fall an intentional act by the People’s Bank of China, which is marching into a currency war to defend export competitiveness. But the drop in foreign exchange reserves in the fourth quarter last year suggests that the central bank may have intervened to prop up the currency, rather than drive it down.
The PBoC has consistently set its daily midpoint price stronger than the spot rate, a further signal that authorities do not want the currency to fall sharply.
Andrew Tilton, chief Asia economist at Goldman Sachs, says policy makers are unlikely to pursue a weaker currency because of the knock-on effects such a move would have on Beijing’s reform efforts.
“It is inconsistent with some of the other policy goals they have, such as wanting the renminbi to be used more broadly as an international currency, and wanting foreigners to invest in the stock market,” he says.