Fixing rate closer to closing price
Print Edition
CHINA’S yuan weakened against the US dollar yesterday by the largest daily decline in two decades after the central bank shocked the market with a near 2 percent reference rate change as part of a market-oriented reform.
The yuan closed at 6.3260 per US dollar on the domestic spot market, the lowest since September 2012. The closing price weakened 1.87 percent from Monday, marking the largest daily depreciation since China officially kick-started a functional foreign exchange market in 1994.
The devaluation was made possible after the People’s Bank of China lowered the daily fixing rate to 6.2298 from the previous day’s 6.1162. The yuan is only allowed to be traded between 2 percent on each side of the reference rate.
Yesterday’s sharply lower rate was described by the central bank as a “one-off” adjustment, which bridged the previously accumulated differences between the central parity rate and the market rate, Xinhua news agency said.
The central bank said it would closely monitor market movements in the future to stabilize market expectations and make sure the new exchange rate formation system works effectively.
It vowed more efforts to promote foreign exchange reform — make it more “market-oriented,” open up the foreign exchange market further with inclusion of qualified foreign entities and gradually unite the onshore-offshore yuan exchange rate.
China’s foreign exchange reform officially started in July 2005 when the central bank decided to unpeg the yuan against the US dollar and allowed it to fluctuate against a basket of currencies.
The yuan was allowed to rise or fall by 0.3 percent from the central parity rate each trading day in China’s spot foreign exchange market.
The central bank also introduced a new reference rate mechanism that will align the daily fixing rate more closely to the closing price of the yuan on the spot market.
The official rate will also take into consideration the foreign exchange supply and the exchange rate trends on the international market for a basket of currencies, the bank said.
The yuan’s move further pushed up the US dollar yesterday, leading to weakening of Asian stock markets and commodity prices.
“There are three possible reasons behind the policy actions,” said Zhu Haibin, JP Morgan China chief economist.
“The strong yuan appreciation in real effective exchange rate term has put a lot of pressure on China’s exports; a trend of weakening currency against the dollar has taken shape in the region; and China needs to react to criticism of the International Monetary Fund on its foreign exchange policies,” Zhu said.
Last week, the IMF said that China’s daily fixing rate was not an appropriate reference exchange rate in that the discrepancy between daily fixing and daily spots was too wide to reflect actual trade.
Analysts believe the central bank’s policy will allow market forces more sway in exchange rate determination and help China to send the yuan into the IMF’s currency basket.
“Today’s move is likely intended to improve the ‘market-driven’ quality of the bank’s daily fix, so that it can qualify to be used by the IMF as a special drawing rights reference rate,” said Wang Tao, chief China economist at UBS.
Joining the SDR could boost international recognition and use of the Chinese currency, eventually lifting China’s financial power.
Zhu said the next few weeks will be crucial to find out whether China will truly let go of the daily fixing or maintain some form of intervention.
The UBS yesterday revised its forecast of yuan exchange rate to 6.50 per dollar by the end of this year from a previous estimate of 6.30.
Analysts dismissed the idea that the central bank’s move is China adopting a devaluation strategy to counter a slump in exports, Xinhua said.
Official data on Saturday showed that exports fell to 7.75 trillion yuan (US$1.24 trillion) in the first seven months of this year, down 0.9 percent from a year ago. In July, exports declined by 8.9 percent.
“Exports have indeed been soft this year, but this is largely a reflection of sluggish external demand,” the HSBC said in a research note. “In an environment of a soft global recovery, the benefits of beggar-thy-neighbor competitive devaluation are neither clear nor easy to reap.”
The HSBC believes Chinese policy-makers have sufficient policy ammunition to boost domestic demand to offset external headwinds.
“Both monetary and fiscal policies are becoming more accommodative and better coordinated, as evidenced by the reports that policy banks will issue more than 1 trillion yuan of financial bonds to support infrastructure investment,” it said.
The HSBC forecast an additional 25 basis points interest rate cut and 200 bps reserve ratio cut in the second half.
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