MNI: PBOC Response May Be Needed As Yuan Breaches 7 - Analysts

The People’s Bank of China could officially reintroduce the counter-cyclical factor into its yuan pricing model as one tool to slow any sharp slide in the currency after it breached 7 against the U.S. dollar for the first time since mid-2020 despite recent efforts to stem the selling momentum.

The PBOC has plenty of tools to curb “abnormal” volatility in the yuan should it diverge too much from the rising U.S. Dollar Index (See: MNI: PBOC Has Tools To Slow Yuan Slide – Analysts), said Wang Qing, chief macroeconomic researcher at Golden Credit Rating.

In addition to reintroduction of the counter-cyclical factor, other options include draining liquidity in the offshore yuan market via issuing more PBOC bills, tighter cross border capital controls and hikes in the FX risk reserve ratio, which would require more capital to be aside by financial institutions trading FX forwards, he added.

Wang noted the yuan will continue to depreciate against the rallying dollar but said a more important focus should be ensuring the yuan stays relatively stable against a basket that includes other major currencies, rather than obsessing over a particular level. He said a weak yuan would not impede the PBOC’s moves to ease policy as an economic rebound would shore up the yuan later this year, with the yuan’s performance against major global currencies set to remain strong.

Analysts forecast the currency could fall to 7.2, territory last visited when it touched 7.17 in 2019 - the first time the PBOC allowed CNY to break through 7 since 2008.

The USDCNH broke 7 on Thursday night and USDCNY followed on Friday morning after the PBOC set the USDCNY fixing at 6.9305, the highest since August 2020.

The yuan has continued to weaken despite the PBOC cutting the FX reserve requirement ratio last Monday to 6% from 8%, a move aimed at bolstering U.S. dollar liquidity – and crimping sales of yuan - in China’s financial system. The Bank has set a higher yuan daily fixing since mid-August. The USDCNY fixing printed at 6.9305 versus a Bloomberg estimate of 6.9761.

The yuan would range between 6.7 and 7.2 over the remainder of the year, said Chinese Academy of Social Sciences senior fellow Zhang Ming. He views a big depreciation as unlikely given expectations for a rebound in China’s economy as US growth slows in 2023.

The yuan may find support as the U.S. dollar Index peaks in the fourth quarter as the Federal Reserve is expected to slow its pace of tightening, said BOC International analyst Zhu Qibing. Policies to support domestic growth would bolster the yuan, he added.