Explanations for Renminbi Devaluation

Zhong Wei of Beijing Normal University cites three possibilities for the yuan depreciation.

First, he sees no problem with the balance of payments that would justify yuan depreciation, and there is still an abundance of hot money inflows. But there's a gap between foreign exchange purchases (by banks) and payments for exports, which may be due to arbitrage.

What happens is a Chinese exporter receives payment for many months of orders ahead of time. He takes the dollars and exchanges them for renminbi, investing them at high interest rates. Before the contract is due, the importer cancels the order and the exporter must exchange the renminbi back to dollars and refund the customer. Using this tactic, there's no need to export fake goods and worry about getting hassled at customs. If arbitrage is taking place, than this has inflated export numbers and a bigger devaluation may be on the way.

The second possibility for imbalance in fund flows is the one used to explain the February drop: the PBOC is combating hot money inflows (appreciation expectations). If it is hot money flows, it signals the capital flows are larger than believed and volatility in the yuan exchange rate will be higher moving forward.

There's also a third guess at the end foreigners buying A-shares. I don't follow his logic, though one explanation that makes sense to me is that investors buying A-shares are offsetting it with currency hedges.

Of these three, Occam's Razor favors the first. In the wake of the government crackdown on fake export currency arbitrage last year, the arbitrageurs didn't quit, they changed their tactics. The government may just now shutting down this trick as well, or the arbitrageurs were chased out by the PBOC move in February, or they are simply worried about the financial system in China.

Background on the forex gap: Chinese banks continue net forex purchases
Chinese banks bought more foreign currency than they sold in March, the eighth consecutive month of net foreign exchange purchases, China's forex regulator said Thursday.

Chinese lenders bought 167.8 billion U.S. dollars' worth of foreign currency in March and sold 127.6 billion U.S. dollars, resulting in a net buy of 40.2 billion U.S. dollars, the State Administration of Foreign Exchange (SAFE) said in a statement.

The run of net forex purchases began in August last year, but the surplus has been narrowing, down from 45.7 billion U.S. dollars in February and 73.3 billion U.S. dollars in January.

"Overall, China is maintaining cross-border capital inflows but the trend has been easing recently," said Guan Tao, head of the SAFE's Balance of Payments Department.

Zhong Zhengsheng, macroeconomic researcher with Guosen Securities, pointed out that due to expectation of yuan depreciation, clients are proving more willing to hold foreign assets.
And there you have yet another explanation: Chinese investors increasingly want to hold dollars.

There's a mix of several factors in play, but arbitrage through fake trade is the most important (if occurring) because it is distorting trade data.

Since 2014, the gradual devaluation of the RMB, as of mid-April, the depreciation rate of the RMB against the U.S. dollar, has appreciated the full year 2013, exhausted. How to understand the reason for this devaluation happen?

After careful analysis, I think the reason devaluation is more complex, there are three possibilities: arbitrage, to gamble and do more than sing the air.

Balance of payments does not support devaluation

From the international balance of payments perspective, explain whether the presence of factors that support the devaluation? I believe that does not exist. On foreign capital inflows, the current account surplus, foreign debt and foreign reserve situation, does not support the devaluation.

On foreign investment in China, the current FDI inflows remained stable at around $ 10 billion per month in the first quarter of 2014, FDI inflows of $ 41 billion, which in March was $ 10.5 billion. Foreign investment has reached $ 2.3 trillion in China. During the subprime crisis, FDI in China has declined, but is not currently a similar situation. Foreign continue to get the honeymoon period has no excess profits in China, but it still attaches great importance to the steady growth of the Chinese market.

On current foreign exchange, the 2014 first quarter current account surplus of $ 159.2 billion realized foreign exchange, which in March foreign exchange surplus of $ 40.2 billion, some scholars have speculated in March may appear huge hot money fled, Sold Department of sharp reversal from a surplus of deficit, this situation did not occur.

For the purposes of external debt and foreign reserves, China's foreign debt was only $ 42 billion in 2013, a slight increase of the annual $ 5 billion. Nearly $ 5 trillion in foreign reserves can not display more devaluation signals.

We can say that the international balance of payments does not support devaluation.

Receipt and payment of foreign exchange and a huge difference

If we carefully observe changes in foreign exchange and the receipt and payment, and may fall into confusion, the two should have a basic change in the same direction, why the current poles apart? This difference shows that China is currently difficult to explain the existence of excessive foreign exchange inflows and outflows of foreign exchange too little.

Often project, the first quarter current account surplus of $ 159.2 billion foreign exchange settlement achieved, but the receipt and payment of only $ 50.3 billion surplus, the difference between the high $ 110 billion. 2014 a quarter of trade in goods surplus of $ 162.1 billion foreign exchange realization, but the receipt and payment of a deficit of $ 5.2 billion, a larger difference between the two. Receipt and payment of foreign exchange differences and larger areas are Shanghai, Shandong and so on.

In China, including financial institutions, companies need to seek cross-border foreign exchange receipts and payments from the balance. Receipt and payment of foreign exchange and the amount of the previous close, while the timing data with the changes. But in 2013 the goods trade down, and foreign exchange differences between the receipt and payment of $ 280 billion; case $ 167.3 billion by the first quarter of 2014 appeared, and the receipt and payment of foreign exchange differences between the 2014 The extremely alarming. Why is there such a huge suspense?

Three huge differences may occur

The receipt and payment of foreign exchange and cause a huge difference, I believe that arbitrage may point to a large organization, especially in the mature central enterprises overseas network.

We can cite examples: a Chinese exporters received a $ 100 million-called export orders, the foreign counterpart has paid for foreign six months of D / A acceptances. The exporter may apply for $ 100 revokes the order, the Chinese exporter will be "forced" to buy $ 100 million in foreign exchange, refund to exporters. This process is apparent as import and export contracts entered into and canceled, the outer tube observation trade finance real false export arbitrage arbitrage behavior. Any costs of such behavior, no original camouflage export declaration, inspection, insurance, transportation, etc., do not need to re-export the high seas migratory only need to enter into forward contracts and canceled.

Evidence that foreign trade enterprises export earnings rate (the ratio of the export value of foreign exchange received) on the rise, in 2013 an increase of 2 percentage points. While imports of pay rate (the ratio of the amount paid for the import of foreign exchange) is declining, 2013 decreased by 7 percentage points.

Technical factors supporting this approach is that in 2013 the import and export of foreign exchange transaction-verification system was abandoned, and export receipt and payment verification networking reporting more relaxed, in practice local foreign exchange management agencies usually check on the receipt and payment of 12 months, and rarely individually checked. Previously written off individually when the receipt and payment business, so companies can not be the receipt and payment accounts in one pot, and now, at least within 12 months, can be relatively safe to do that.

In this process, there is a mature financial network of overseas central level should be the protagonist. Financing sources in the petroleum, petrochemical, and accounted for by domestic bank loans less than 10%, "barrels of oil" itself has a high degree of financialization.

If the difference between the receipt and payment of foreign exchange and arbitrage lead, then it means that now the real exports of goods, even worse than the export statistics. After coming arbitrage arbitrage space contraction, the magnitude of devaluation may be greater.

Of course, a huge difference and the receipt and payment of foreign exchange may also point to financial institutions hot money inflows. So, short of RMB devaluation the central bank is likely to gamble in their.

Recalling the 1997 financial crisis, Hong Kong, and its layout is very simple principle: the Anglo-American capital-based organizations in the spot market continued to sell dollars, buy dollars, the stock market continued to buy shares in the Hang Seng sample, which makes the preparation stage hoarding HK faced appreciation pressures, rising stock market indices. After ready enough chips HK and Hong Kong stocks, speculators built on a lot of bearish stock index futures contract positions, and then continued to buy foreign currency in the foreign exchange throwing HK, so HK under enormous pressure to devalue, a sharp rise in the overnight rate; while throwing in the stock market sample stocks, the Hang Seng index was dropped sharply. In the hoarding - sell-off, speculators in the foreign exchange market and the stock market is a loss, but stock index futures contracts can create unlimited profit amazing.

In the financial blocking action, the Hong Kong SAR Government was underfunded and can not continue to undertake the Anglo-American capital of HK and sell stocks, the mainland Chinese government stepped in to buy almost unlimited stance continued to buy. Lead to a complete collapse of confidence short speculators.

This is great with money to bet against the background of the will. Maybe it can explain why, in the balance of payments - either under the capital account or current account surplus in the background are the RMB has depreciated. This is a warning to the central bank institutions hot money, a method of RMB only moderately but not excessively speculative speculative warning.

But perhaps the size of the organization is not so huge hot money. Cross-border sales and overseas payment options exist yuan, could explain part of the difference between the form and the receipt and payment of foreign exchange.

RMB cross-border purchase and sale of businesses might be interested in the receipt and payment have an impact, there is corporate demand payment of RMB cross-border payments can not be paid in foreign exchange, but in the SAFE statistics, enterprises need to purchase foreign exchange from banks, but still deemed foreign exchange payment. In addition companies may also direct payment to overseas accounts, without having to purchase foreign exchange through the territory. But these factors only explain arise between the receipt and payment of foreign exchange settlement and about half a huge difference.

If the difference between the receipt and payment of foreign exchange and contain elements of gambling, it is likely a reflection of the interest rate market in China in the process, some seemingly synchronized promote market-oriented, innovative initiatives to relax capital controls, but it makes Cross-border capital flows become more difficult to control the risk. Meanwhile, the RMB exchange rate fluctuations are more likely to occur.

A huge difference and the receipt and payment of foreign exchange, there is a possibility that the greatest changes in the international asset allocation point, that may sing the air to do more foreign.

This is just a guess, insufficient evidence. The external situation is that the U.S. economic growth and lower-than-expected labor force participation rates, inflationary pressures than expected large, so the pressure of the Fed rate hike may be more urgent, which makes the possibility of the U.S. bond market at low tide in the stock market to increase.

Now this huge difference in China occurred in the field of foreign exchange, a possibility can not be excluded: foreign financial institutions interested in A shares of increasingly strong, wishing at low tide in the global capital injection of A shares have become quite cheap among. Therefore, from the second half of 2013 QFII positions gradually increased, showing foreign financial outlook for the Chinese economy to be added pessimism, perhaps absorb cheap chips are packaged skills.

(The author is professor of Beijing Normal University)

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