Chinese Economists Don't Rule Out Further Yuan Depreciation

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An employee counts Chinese currency at a bank in Huaibei, Anhui province on May 2, 2013.
An employee counts Chinese currency at a bank in Huaibei, Anhui province on May 2, 2013.

There is still plenty of room for further depreciation of China's yuan, economists told RFA on Wednesday after the currency saw its sharpest fall since the early 1990s.

The People's Bank of China (PBOC), China's central bank, cut the yuan's value against the U.S. dollar for the second day in a row on Wednesday, spooking financial markets around the world with fears of further cuts to come.

The PBOC slashed its daily reference rate used to confine the currency within a preset trading band by 1.62 percent following a cut of two percent on Tuesday.

While PBOC officials played down expectations the bank would continue to depreciate the currency, economists said there is still plenty of room for a weaker yuan, with SG Global Economics predicting the yuan could depreciate by five percent over 12 months.

The PBOC says it will now take into account the previous day's close, foreign exchange supply and demand, and the rates of major currencies, in a bid to make fluctuations in the yuan's value closer to market values.

At the same time, it hinted at problems with the balance of payments flowing in and out of China, vowing to restore "order" to underground movements of capital.

"Currently ... we are seeing increasingly large and volatile cross-border capital flow," the PBOC said in a statement on its website on Tuesday.

Massive capital outflows

According to analyst Thomas Shik of Hong Kong's Hang Seng Bank, China has been experiencing massive capital outflows over the past year reaching U.S.$159.2 billion in the first quarter of 2015, the biggest quarterly outflow in recent years.

According to a June report authored by Shik, "money has been flowing out of the country since the second quarter of 2014, due in large part to the economic slowdown and monetary easing by the PBOC."

"These figures resulted in a U.S.$80.3 billion balance of payments deficit for the three-month period--the largest such deficit on record," Shik wrote.

But the PBOC hinted that the government figures could also hide movements of underground capital overseas, which some commentators say is a response to a nationwide anti-corruption campaign launched by President Xi Jinping since he took power in November 2012.

"The PBOC and the State Administration for Foreign Exchange (SAFE) will strengthen the examination of banks' foreign exchange transactions according to relevant laws and regulations," the bank's statement on the yuan said.

It pledged to fight tax evasion and money laundering and to improve the monitoring of "suspicious" cross-border capital flows.

"The PBOC and SAFE will severely punish illegal foreign exchange transactions, including underground banks, and maintain a compliant and orderly capital flow," the bank said.

Frozen assets, property deals

The true nature and purpose of capital flows out of China are largely opaque, but Beijing has stepped up measures in recent years to freeze the assets of corrupt officials overseas, and property market data suggests that Chinese nationals are pouring huge sums into property in exclusive areas of London, New York, Los Angeles, Sydney, and Toronto.

Beijing also has an incentive to allow the yuan to float more freely on global currency markets, as the PBOC wants the currency to join the group of special drawing rights to reserve currencies held by the International Monetary Fund (IMF), according to Professor Hu Xingdou, an economist at Beijing's University of Science and Technology.

"If it wants the yuan to be a truly international currency, it will have to allow full convertibility," Hu said. "[For that], the yuan will also have to show it can maintain stability."

Hu said there is still plenty of room for further depreciation of the yuan, however.

"The depreciation of the yuan definitely has some way to go," Hu said. "We're not talking about two or three percent. As much as 10 or 20 percent is likely."

"I think we will definitely see further devaluations in the short term," he said.

"More to gain'

Zhong Dajun, head of the Beijing-based Dajun Economic Research Institute, agreed.

"The yuan has risen continually for the past few years, which is counterintuitive when you look at how much excess liquidity there has been in the domestic economy," Zhong said.

"From China's point of view, they have more to gain than to lose from a weaker yuan."

Zhong said a weaker yuan would make the currency less attractive to speculators, should the PBOC move to a freely floating exchange rate.

"It will help to squeeze speculative international money flows and protect economic stability, because it will stop hot money flooding into China to play the markets," Zhong said.

"Hot" speculative money playing with regional currencies was blamed for the Asian financial crisis of 1997, while the yuan was largely protected by a lack of convertibility.

PBOC officials said they would "enhance the flexibility of RMB exchange rate in both directions and keep the exchange rate basically stable at an adaptive and equilibrium level."

But it made no mention of relinquishing all control mechanisms, pledging to "improve the managed floating exchange rate regime based on market demand and supply."

Reported by Wen Jian for RFA's Mandarin Service, and by Lam Yau-tak for the Cantonese Service. Translated and written in English by Luisetta Mudie.





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