MNI: PBOC Seen Capping Further Sharp Yuan Weakness

The People’s Bank of China will curb excessive yuan weakness should the currency approach 7.1 to the dollar at a fast pace, with with any further depreciation of the Chinese currency later this year likely capped at 7.3, policy advisors, economists and traders told MNI.

Measures to buoy the exchange rate could include adjustments of the forex reserve requirement ratio, after the yuan lost 3.2% against a currency basket so far this year, one policy advisor said. Further depreciation would be limited, the advisor added.

The yuan has slipped from a 2023 high of 6.7 in mid-January to 7.05 on the onshore CNY measure with Lian Ping, chief economist at Zhixin Investment Research Institute, saying uncertainty over the U.S. debt ceiling had undermined risk sentiment. USDCNY may break 7.1, but is unlikely to trade much weaker and not below the 7.3 seen in November 2022, he said, adding that the PBOC would act promptly against any sharp depreciation in order to prevent “herd" mentality taking hold.

CAPITAL OUTFLOWS

While a weaker yuan benefits exports, the authorities are wary of excessive capital outflows, Lian said. The PBOC said last Friday that it would crack down on pro-cyclical or one-way bets when necessary and curb speculation to prevent excessive volatility.

The dollar should also lose momentum in June assuming talks over the U.S debt limit are successful and the Federal Reserve keeps rates unchanged, while a return to China’s potential growth rate around 5-6% in the second quarter would help to drive the yuan back below 7.1, Lian said.

But a commercial bank foreign exchange trader told MNI that the yuan would probably stay around 7-7.1 for some time, though the PBOC was likely to curb further weakness given a 7% depreciation since this time last year.

The widening U.S.-China yield spread and demand for dollars as offshore companies pay dividends over June will continue to set a weak tone for yuan trade, though neither one-year non-deliverable forwards nor the gap between CNY and the offshore CNH rate indicate obvious pessimistic sentiment, the trader said.

Guan Tao, global chief economist at BOC International and former director general of balance of payments at the State Administration of Foreign Exchange recently told MNI the yuan would likely trade within a wide range for the remainder of 2023. He noted economic fundamentals will drive the currency’s performance this year, as the recovery underwhelms and weaker-than-expected policy stimulus weighs. (See MNI INTERVIEW: Yuan Within Wider Band- Former SAFE Official)

ECONOMIC HEADWINDS

A PBOC drive for banks to lower deposit rates, as it seeks to encourage cheap lending, has sapped the yuan in conjunction with poor economic data since April, said Tan Yaling, head of the China Foreign Investment Research Institute. The currency could reach 7.3 by November as the economy faces further headwinds, she said, though she also mentioned what she called an extreme scenario in which a slide in the dollar index from its current 104 towards 100 could drive the yuan to 6.65.

Chinese banks offer rates on one-year dollar deposits of about 5%, versus 1.5% for yuan, Lian said, adding that regulators need to ensure there is no shift to foreign currency within China. Bond market outflows reached CNY229.5 billion in the first four months of the year, as dollar-yuan yield spreads widened to over 100bp from 60bp in January, Lian said, adding that Chinese companies were also opting to hold onto dollars rather than exchange them into yuan.