By Lingling Wei in Beijing and Saumya Vaishampayan in Hong Kong
A recent surge in the value of the yuan has blindsided Wall Street and stands to complicate China’s efforts to simultaneously manage a slowdown in growth while deepening its ties to global markets.
The yuan jumped to its strongest level in 16 months this week, bringing its total gain versus the dollar to 7% in 2017, more than recouping all of its decline last year. Last month alone, the yuan soared 2% against the dollar, notching its biggest monthly advance since July 2005.
Traders and analysts attribute the yuan’s changing fortunes both to the dollar’s softening and to the Chinese central bank’s stepped-up controls over the yuan—through a tweaked mechanism to guide its value—which have reduced expectations for it to weaken and prodded companies that had been hoarding dollars to convert them into local currency.
In recent trading sessions, investors have regularly pushed the yuan stronger than the level set daily by the central bank—a rare occurrence for a currency that has more often been battered over the past year. In Hong Kong, a yuan-trading hub outside the mainland, rising yuan bank deposits suggest individuals are growing more comfortable holding on to the currency rather than swapping it for foreign alternatives.
“Market expectations are at work here,” an official at the People’s Bank of China says.
The yuan’s recent ascent comes with a heavy price tag for Beijing. It has dialed back long-running efforts to make the yuan a freer currency and imposed strict controls on money leaving China. Even as those measures have helped stem outflows—official data Thursday showed China’s foreign-exchange reserves rose for a seventh straight month to $3.092 trillion in August—the steps have damped demand from overseas for Chinese assets despite the government’s effort to attract more foreign investors to buy Chinese stocks and bonds.
Meanwhile, the pent-up desire among Chinese companies and individuals to diversify their assets offshore means that underlying pressures on the yuan to weaken have merely been kept bottled up, economists say. The Chinese economy’s growing challenges, from mounting debts and persistent industrial overcapacity to an out-of-balance housing market, also suggest there is a lack of fundamental drivers to keep the currency going up.
Eric Liu, portfolio manager of Asia fixed income at Manulife Asset Management in Hong Kong, is among the investors who have cut positions in the yuan in the past few days.
“We’ve turned neutral from here because of the magnitude of the move,” Mr. Liu says. “The pace has been too fast.”
Bryan Carter, head of emerging markets fixed income at BNP Paribas Asset Management, believes the policy-driven advance in the yuan is essentially done. He expects the currency to give up some of its recent gains after the Communist Party’s twice-a-decade congress next month, which will help shape the nation’s power structure for years to come.
With that political transition looming, China’s leadership wants its currency to be stable to help fend off financial risks, buttress the economy at home and avoid trade disputes abroad. A roaring yuan, however, is putting pressure on the country’s manufacturers who are counting on an uptick in foreign orders as domestic demand remains lackluster. (An appreciating yuan makes Chinese goods more expensive in markets overseas.)
Wu Yinhe, who runs a stainless-steel kitchenware and furniture manufacturer in southern China, says her company is among those feeling the pinch from a soaring yuan.
“External demand is pretty good,” says Ms. Wu, general manager of Golden Star Steel Furniture Factory in the city of Jiangmen. But the yuan’s strengthening means she is getting less bang for her dollar earnings when she converts them into the Chinese currency, she says.
Such pressure on Chinese businesses doesn’t bode well for an economy that has been struggling with tepid private investment and consumption. Exports have been one of the few bright spots that have helped China keep growth on track in the past few months. And that, economists say, was at least partly due to the yuan’s depreciation in the past year or so, which helped give Chinese exporters a price advantage in foreign markets.
Already, the yuan’s newfound strength has started to weigh. Official data show that year-over-year growth in Chinese goods sold overseas dropped to 7.2% in July from 11.3% in the previous month. Economists polled by The Wall Street Journal expect that growth rate to have fallen further to 6% last month. Notably, year-over-year growth in China’s sales to the U.S. plunged to 8.5% in July from 19.72% in June, and the growth in sales to its other major trading partner, the European Union, also dropped to 9.54% from 15.08%. Most of China’s cross-border trade is priced in dollars.
Over the years, China has sharply reduced its reliance on exports, with the contribution of trade to the Chinese economy much smaller now compared with the early 2000s. Still, analysts say, Beijing can ill afford a slumping export sector when the leadership is stressing economic stability in a year of political transition.
How China manages the yuan is closely watched by policy makers and investors world-wide. Its shifting and often inscrutable foreign-exchange regime has been a lingering source of uncertainty for global markets. Two years ago, the central bank’s sudden 2% devaluation of the yuan set off a global market selloff.
The yuan’s rise is the latest ripple from the 2017 decline in the U.S. dollar. Many investors expected the yuan to fall to 7 to the dollar this year, reflecting a strengthening U.S. economy and Chinese efforts to cushion the export sector. Instead the yuan’s rise to near 6.5 to the dollar has forced a reassessment.
“Most people, including me, are somewhat surprised” by the recent strengthening in the yuan, says Ben Sy, head of fixed income, currencies and commodities at J.P. Morgan Private Bank in Hong Kong. “I don’t think the yuan can rally a lot from here.”
Some traders and analysts say the People’s Bank of China may take measures to limit the yuan’s rise because of the potential toll on growth. But others expect the central bank will let the yuan continue rising for now to make room for it to weaken in the event of any dollar rebound.
Many reform-minded officials and academics have called on Beijing to take advantage of the current market sentiment to renew its efforts to liberalize the yuan.
For now, there are few signs of any meaningful market-oriented change in the offing. In fact, the yuan’s recent surge started when the central bank in late May asserted greater control over the currency by adding what it calls a “countercyclical” factor into the way it sets the yuan’s official rate against the dollar to prevent big fluctuations. This latest policy tweak has given the central bank greater leeway to lift the yuan as the dollar weakens: More than 80% of the yuan’s gain this year occurred after the introduction of that factor.
At the current level, Mr. Sy of J.P. Morgan Private Bank says it is “a bit expensive” to be making bullish bets on the yuan. “But are you going to short?” he says. “People are very interested but really don’t know which way to go.”https://www.wsj.com/articles/yuans-sharp-rise-muddles-chinas-growth-picture-1504776603
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