Measures introduced by China’s State Administration of Foreign Exchange (SAFE) this week to stem speculative inflows of capital into the country could be a first step towards further liberalization of Beijing’s currency policy.
The steps announced on Monday caused some short covering in USDCNY and USDCNH, but weakness in the Chinese currency could prove temporary if they prove to be a precursor to the widening of the renminbi’s trading band.
USDCNH forward curve
SAFE announced it will send out warning notices to companies whose goods and capital flows do not match, as well as to those that are bringing large amounts of cash into China. Recipients will have 10 days to explain the need for their transactions, with those failing to provide proof having their activities closely monitored by SAFE for at least three months.
In addition, corporates will have to provide proof that they have paid in foreign currency for their imports before they can sell it in the offshore market.
Banks, meanwhile, must raise their foreign currency positions if their FX loan-to-deposit ratio exceeds reference levels.
Irene Cheung, FX strategist at ANZ, says the measures appear to be a response to the much-talked-about over-invoicing of exports by Chinese companies this year, to bring in foreign exchange to bet on the appreciation of the renminbi, which has helped boost China’s reported export data.
Indeed, some believe China’s April export data released on Wednesday – which showed an annual growth rate of 14.2%, beating expectations for a 9.2% rise – could have been boosted by over-invoicing.
“It appears that the government is finally catching up and has acted to close the loopholes,” says Cheung.
“The measures will clear the ground for a widening of the daily fluctuation band of the renminbi, possibly at some time this year.”
Yi Gang, deputy governor of the People’s Bank of China (PBoC), said at an IMF conference in Washington in April that the trading band will be widened “in the near future” as part of plans to make the exchange rate more market-orientated.
Since the renminbi was revalued and de-pegged from the dollar in July 2005, the trading band in which USDCNY is allowed to fluctuate around the PBoC’s daily reference rate has been widened twice: from +/- 0.3% to +/-0.5% in May 2007, and to +/- 1% in April 2012.
Deviation of USDCNY from daily fixing
Cheung says a further band widening could occur after the steps announced this week to counter speculative inflows take full effect on June 1.
In that event, she expects the band will be widened by at least 0.5 of a percentage point, taking it to +/- 1.5%.
That, Cheung believes, could provoke a similar 0.5% appreciation in the renminbi, provided that positive sentiment remains in the currency.