Capital flows from China persisted in April despite a reported rise in foreign exchange reserves, which mainly reflec-ted the impact of a weaker dollar on the central bank’s euro and yen holdings.
After falling for 18 of 20 months until February, slicing $791bn off the headline total, China’s official reserves rose by a combined $17bn in March and April, hitting $3.22tn last month.
But a look inside the data suggests significant latent outflow pressure remains. China has also benefited from global tailwinds in recent months that may not last. The strongest of these is the pause in interest rate rises by the US Federal Reserve, which caused a broad decline in the dollar versus global currencies.
“No matter due to tacit policy co-ordination or just dumb luck, the weakened US dollar has greatly eased the pressure on renminbi and capital outflows from China,” Larry Hu, a China economist at Macquarie Securities, wrote yesterday.
Fundamentals have certainly improved since the renminbi’s sharp fall in early January sent shockwaves through global markets. Predictions that uncontrolled capital flight would lead to a collapse in the renminbi, or rapid depletion of China’s reserves, now look increasingly rash.
The People’s Bank of China’s use of forex reserves to stabilise the renminbi exchange rate, a tactic that has been derided as unsustainable, has largely succeeded in beating back speculators. Hedge funds that placed bets on renminbi depreciation are rethinking their strategy.
But the delay in Fed tightening has been crucial to the slowdown in outflows. The Fed’s rate rise in December, combined with easing steps by the PBoC since late 2014, had drawn funds out of China. But amid signs that China’s economy has stabilised, the PBoC has done no further easing since late February.
A weaker dollar also boosts China’s headline reserves directly through valuation effects, by increasing the dollar-denominated value of the PBoC’s non-dollar assets. Royal Bank of Scotland estimates that mark-to-market accounting boosted China’s headline reserves by a total of $54bn in March and April — implying that on a flow basis, reserves continued to decline.
Further, if inflows from trade and foreign direct investment are stripped out, China suffered portfolio outflows of about $45bn in both March and April, said RBS. While far less alarming than outflows of roughly $200bn last August, this figure shows that sentiment-driven capital is still leaving China.
“If the Fed hikes rates later this year and the Chinese economy rolls over again, forcing the PBoC to take more easing measures, we could see depreciation pressures re-emerge,” said Harrison Hu, China economist at RBS in Singapore.
The PBoC’s efforts to staunch the outflows have also come at a cost to its own credibility and long-term reform goals.
The central bank has repeatedly said it intends to let market forces set the exchange rate and reduce capital controls that limit cross-border flows. But since last year that goal has taken a back seat to efforts to restore stability.
Not only has the PBoC spent hundreds of billions of dollars of reserves to defend the exchange rate, it has reimposed some capital controls in an effort to discourage currency speculation. Those include restricting forex purchases by individuals and halting a programme to allow Chinese residents to invest in foreign hedge funds.
Ironically, backsliding on pro-market reforms is largely the result of the central bank’s well-intentioned but poorly communicated effort to reduce intervention. In August, when the PBoC announced changes to the way it sets the exchange rate, it framed the move as a step towards granting more influence to market forces. But as the change came at a time when market forces were certain to push the currency weaker, many foreign investors interpreted it as an act of competitive devaluation to boost exports.
Even at the time, many analysts said this cynical interpretation was wrong, noting that China’s trade surplus was already near record highs. But the market’s panicked response to the August move, which led to unprecedented capital outflow and a much sharper fall in the exchange rate than the central bank had anticipated, essentially forced the PBoC to return to large-scale market intervention.
This intervention focused on propping up the exchange rate, further undermining the PBoC “currency war” interpretation. But even so it strengthened the broader view that the PBoC would never relinquish control of its exchange rate.
“Recently, the central bank has focused on maintaining stability but that’s not the direction of reform. It’s more like imposing stability is an ad hoc measure,” said Zhang Bin, senior fellow at the Chinese Academy of Social Sciences, a think-tank that advises the government. “As for when the central bank will return to pushing forward reforms, at the moment it’s tough to say.”
麦格理证券(Macquarie Securities)中国经济学家胡伟俊(Larry Hu)昨日写道：“不管是因为心照不宣的政策协调还是仅靠偶然的运气，美元走弱都极大地缓解了人民币以及中国资本外流的压力。”