Is yuan devaluation good for China?

Beijing is hoping the yuan will be added to the currency basket that comprise the IMF's international reserve asset [Xinhua]

Beijing is hoping the yuan will be added to the currency basket that comprise the IMF’s international reserve asset [Xinhua]

The People’s Bank of China (PBC) said that the improving US economy was one of the factors weighed in its decision to devalue the yuan.

“The US economy is recovering and markets are expecting at least one interest rate hike by the FOMC (Federal Open Market Committee of the Federal Reserve) this year,” a PBC spokesperson said on the bank’s website on Tuesday.

The PBC also said that strengthening dollar valuation is pushing down against the Euro and Yen.

China’s large trade surplus has put the yuan’s (RMB) real effective exchange rate in a relatively strong position, which is not entirely consistent with market expectation, the central bank said.

“Therefore, it is a good time to improve quotation of the RMB central parity to make it more consistent with the needs of market development,” the spokesperson added.

Investors in China have for more than a week anticipated Beijing’s intervention to stabilize markets and maintain the recent increases in the benchmark indices following dismal economic reports which indicate the economy is slowing down.

The speculation that the People’s Bank of China would adopt some accomodative policy in fact helped the indices regain some of the losses from last month’s crash.

But none predicted that the PBC would in fact devalue the yuan by a staggering two percent – in a single day, no less.

The benchmark Shanghai Composite Index (SHCOMP) closed 0.01 per cent down on Tuesday, stalling five trading days of increases.

For its part, the Hang Seng Index (HSI) closed 0.09 per cent down.

By the end of trade in the US on Tuesday, investors felt a little bit more of a pinch as the Dow Jones Industrial Average was dragged down 1.21 per cent, and the SP 500 dropped 0.96 per cent.

The Nasdaq Composite Index fell 1.27 per cent.

In Asia, Japan’s Nikkei opened down 0.3 per cent on Wednesday morning. South Korea’s Kospi also opened down 0.2 per cent on Wednesday.

Helping the markets and …?

According to Amy Yuan Zhuang, a senior analyst at the Nordea financial services group, Beijing has previously steered clear of devaluing the yuan because it did not want to risk volatility in both the stock and currency markets.

“If the CNY trading band is to be widened, the aim would be to show progress on financial reform,” she said.

Showing progress on financial reform, flexibility, and that Chinese markets can weather crises is critical to Beijing’s aim of being included as a global currency reserve.

Earlier in the year, Chinese Premier Li Keqiang said: “China will speed up the basic convertibility of yuan on the capital account and provide more facility for domestic individual cross-border investment and foreign institutional investment in China’s capital market.”

The International Monetary Fund, which holds the key to the Chinese yuan becoming an international reserve currency through a review of its Special Drawing Rights (SDR) basket, visited Beijing this summer for technical discussions.

The five-yearly review of the SDR basket is due by year-end.

IMF Managing Director Christine Lagarde is on the record saying that the real question is ‘when’ not ‘if’ the yuan qualifies.

Germany, Australia and France have supported the yuan’s bid to be added.

“We’re supportive of China’s efforts to integrate its economy into the world’s economy,” Australian Finance Minister Mathias Cormann said earlier this year.

According to the IMF, selections of currencies for the SDR basket are based on two criteria – the size of the country’s exports and whether its currency is freely useable.

The SDR group includes four currencies – sterling, euro, the US dollar, and Japan’s yen – which can be loaned by the fund to countries in distress.

Including the yuan in this basket would be a significant acknowledgment of China’s growing global economic reach.

In the meantime, the PBC says that the reform of RMB exchange rate formation mechanism will continue to be pushed forward with a market orientation.

“[The] market will play a bigger role in exchange rate determination to facilitate the balancing of international payments. Foreign exchange market development will be accelerated and foreign exchange products will be enriched,” the PBC spokesperson said on the central bank’s website.

The PBC says it will also widen the foreign exchange market and promote the formation of a single exchange rate in both on-shore and off-shore markets.

The BRICS Post

Leave a comment