They Don't Have Enough Reserves: PBoC Intervenes to Defend Yuan

Bloomberg: PBOC’s Presence Seen to Prevent Yuan From Deeper Plunge

China is unlikely to let the plunge in the yuan get out of control, according to Macquarie Securities Ltd.

The People’s Bank of China will want to keep the currency stronger than 7 per dollar -- a level not reached since the financial crisis -- as a break past that may lead to a "vicious cycle" of capital outflows and sharper depreciation, said Larry Hu, head of Chinese economics at Macquarie.

The central bank can stabilize the exchange rate by setting strong fixings and selling the dollar directly in the spot market, he said. "Also, China doesn’t want the currency to be too weak as that will make negotiations with the U.S. tougher."

I suspect an attack on the yuan won't begin until after reserves suffer a meaningful decline. At this point, that might be $30 to $50 billion yuan, enough to signal the capital controls have failed or that defending the yuan is getting expensive. A collapse in the yuan isn't inevitable, but it's getting a heck of a lot more likely if this cyclical downturn doesn't stop soon. USDCNY is very close to 7.0, DXY is within striking distance of 100 and an escalating trade war will start curbing dollar flows into China this summer. The risk of a "multi-sigma" event is increasing, with the possibility for follow on events such as Hong Kong abandoning the dollar peg.

iFeng: 央行离岸出手稳汇率！又在香港布局大动作，吊打空头
Central bank moves offshore to stabilize exchange rate! In Hong Kong, they also made big moves to play short positions

The central bank is stabilizing the exchange rate offshore again!

On May 15, the central bank issued a message that it successfully issued two issues of RMB central bank bills in Hong Kong on the same day, of which three-month and one-year central bank bills each amounted to 10 billion yuan, with bid-winning interest rates of 3.00% and 3.10% respectively. The total bidding volume for this issue exceeded 100 billion yuan, with the main subscribers including commercial banks, funds, investment banks, central banks, international financial organizations and other offshore market investors.

The news seems bland, but considering the special timing of the central bank's issuance of central votes in Hong Kong, its policy intention is well established. Since issuing central bills in Hong Kong can recover the liquidity of offshore RMB, raise the interest rate in the offshore market and raise the cost of shorting RMB, thus achieving the goal of stabilizing the exchange rate. Combined with the rapidly rising market changes in the expectation of RMB devaluation in recent days, it can be seen that the central bank has obviously intended to stabilize the exchange rate by issuing central bank votes at this time.

In fact, except that the offshore RMB exchange rate suffered a heavy blow on Monday, with a drop of 600 basis points during the day, the RMB exchange rate both yesterday and today has a trend of correction. Some analysis points out that there is no lack of central bank stabilizing the exchange rate behind this. As of 13:15 on May 15, the onshore RMB exchange rate was 6.8761, with a devaluation of only 93 basis points. The offshore RMB exchange rate was 6.9053, up 9 basis points from yesterday.

Many analysts pointed out that the probability of RMB exchange rate falling below 7 in the short term is not very high until there is no further negative news about Sino-US trade friction. More importantly, the current trend of RMB exchange rate is event-driven and multi-empty. For enterprises and individuals, instead of blindly betting on unilateral appreciation or devaluation, it is better to stick to the concept of financial neutrality and manage exchange rate risks through hedging tools, otherwise they will be easily beaten.

China can intervene in Hong Kong to prop up CNH, but it costs money:

"CNH usually better reflects the market's expectation of RMB exchange rate than CNY, but the central bank has strong control over the offshore market. In the past, people usually observed some operations (such as forward foreign exchange purchase, foreign exchange swap, etc.) of the branches of major Chinese banks in Hong Kong in the offshore market to fathom the policy intentions of the monetary authorities behind them. " A Hong Kong foreign exchange trader told a Chinese reporter from a securities firm, but if the central bank issues central bank tickets in Hong Kong, it is equivalent to directly facing the participants in the offshore market and openly communicating its own policy stance. In fact, it increases policy transparency, strengthens communication with the market and is conducive to stabilizing market expectations.

CNH is the real exchange rate and everyone in China and outside of China knows it. If the PBoC tries to set a high fixing, speculators can force them to spend mightily to defend it.

Undeniably, the trigger factor for this round of sharp decline of RMB is the Sino-US trade dispute, but the real trigger for the sharp devaluation of the exchange rate for many consecutive days is short selling by overseas institutions.

Senior foreign exchange expert Han Renyu told Chinese reporters at the securities firm that the driving factor for the recent rapid devaluation of the exchange rate is not the market supply and demand (i.e. the customers dominated by enterprises and residents), but speculation (mainly the transactions of financial institutions). The dollar soared ahead in the offshore market and followed closely in the onshore market, which usually means that institutional speculation is likely to be the main factor in the devaluation.

Speculative attacks can go on for months. Flashback to 2012: PBOC can't buy a buck; talk of depleted reserves is not alarmist

[Tan Yaling] says there was a recent article stating that if the only way China can stimulate the economy is through investment, then China's $3 trillion in foreign exchange reserves will be exhausted within 5 years.

She says speculation is the greatest threat to China's development and this speculation could exhaust China's reserves. Although China has $3.2 trillion in reserves, it isn't enough to protect it from hot money, not when the global forex market trades $5-6 trillion each day. If there is no long-term strategy to defend the reserves, they could be rapidly exhausted.

Below I will post the Sogou translation of the full article. Back to the iFeng article, it paints an air of calm in the foreign exchange market:

"The direct consequence of the soaring offshore dollar is to widen the foreign exchange gap between China and overseas. There is no doubt that a space of several hundred basis points will excite cross-border arbitrageurs, and the result of arbitrage is that the onshore dollar will definitely soar rapidly. This is not the first time that such a situation has occurred. Generally, there is room for cross-border arbitrage if the domestic foreign exchange difference is more than 100 basis points. " Han Hui said.

However, since this Tuesday, the exchange rate has started to recover, which may include the central bank stabilizing the exchange rate and "beating" bears. There are two interesting phenomena that are meaningful: on the one hand, the central parity rate of RMB against the U.S. dollar was 6.8365 on Tuesday, down 411 points, significantly lower than the closing price of 6.8721 on Monday, which indicates that the counter-cyclical factors in the central parity pricing mechanism may have played a role; On the other hand, on Tuesday, the offshore RMB exchange rate against the U.S. dollar had a strong short-term rise of 150 points, once recovering the 6.90 mark.

The special timing of the central bank's issuance of central bank votes in Hong Kong on Wednesday is a manifestation of the policy intention of stabilizing the exchange rate.

So, does the central bank's move to stabilize the exchange rate at this time mean that the RMB will be protected at "7"? Some analysts pointed out that the central bank's choice of when to stabilize the exchange rate has nothing to do with the specific position of the exchange rate. The key is to observe the settlement and sale of foreign exchange in the market.

"The exchange rate is never the most important point. The monetary authority first considers the pressure of capital flow. If the macro-prudential management of cross-border capital flow is effective and the deficit in foreign exchange settlement and sale is not large, it does not matter whether it breaks 7." South Korea stationed said that if there is another serious imbalance in the foreign exchange settlement and sale market, the invisible hand will act. Even if the RMB reaches around 7 against the US dollar, if the foreign exchange settlement and sale market is calm, then the 7 break will be broken, which is not a big deal. However, if the exchange rate has just reached 6.95 and there is a tide of buying foreign exchange, then basically don't expect to break 7.

Defending the yuan from USDCNY 7.00 is a really loud signal that says otherwise.

Therefore, from the perspective of stabilizing the expectation of RMB exchange rate, many analysts pointed out that there is no possibility of a sharp devaluation of RMB. UBS China Adjusts Exchange Rate Forecast of RMB to USD to 7 at End 2019. Wang Tao, chief economist of UBS China, said that this was mainly because the government might allow the RMB to depreciate slightly in view of the worsening current account balance and the greater downward market pressure on the exchange rate. If the United States imposes a 25% tariff on all Chinese exports, the pressure of RMB devaluation will increase dramatically.

"Nevertheless, the central bank may still try its best to avoid a sharp devaluation of the exchange rate, so it is expected that the RMB exchange rate against the US dollar will only moderate to 7.2 in 2019. If the tariff increases continue to take effect, the RMB exchange rate may further depreciate in 2020. " Wang Tao said.

Yu Yongding, a member of the Faculty of Social Sciences, also told the Chinese reporter of the securities firm that as Yi Gang, governor of the Central Bank, said earlier, we will never use the exchange rate for the purpose of competition, nor will we use the exchange rate to increase China's exports, or to consider trade friction tools. We can promise that we will never do this. As for how the exchange rate will change, it is determined by the relationship between market supply and demand. The exchange rate must be flexible.

I agree 100 percent with Yu Yongding. China will not devalue for competitive reasons. It will devalue because it will exhaust its reserves, because it will be unable to contain capital flight or stop an unfolding deflationary credit crisis without massively increasing domestic credit supply, which in turn necessitates inflating the yuan far beyond the constraints of the current exchange rate. As is often said about gold, China has more than enough dollars to fund its economy. The problem is the price of those dollars is set too low.

Sogou translation of Tan Yaling 2012 article: It is not alarmist talk to say that foreign exchange will run out

High-level viewpoint

Tan Yaling, President of China Foreign Exchange Investment Research Institute

Not long ago, an article pointed out that China's foreign exchange reserves of over 3 trillion US dollars could not provide shelter for China's economy. In the future, if China can only continue to promote investment and has no other way to maintain economic growth, China's foreign exchange reserves will be exhausted within five years. This advice deserves attention.

First of all, this "alarmist talk" has sounded the alarm bell for the current stability of China's economy. At present, speculative arbitrage is very serious in our country's market. This speculative state is not only not conducive to development, but will consume the accumulation in the past, waste reserve resources, and make it possible for China's foreign exchange reserves to shrink and run out. Because the market is highly concentrated in speculative arbitrage rather than in the development of entities and industries, coupled with regulatory deficiencies, hot money has provided a space for speculation and a platform for building momentum. As a result, this kind of speculative arbitrage is used by hot money, making hard-won foreign exchange reserves consumed by their own blind obedience.

Therefore, although our foreign exchange reserves are strong, they are not large enough to withstand international hedging risks. At present, we have 3.2 trillion US dollars in foreign exchange reserves, while the international foreign exchange market trades 5-6 trillion US dollars a day. Our scale cannot stop speculative speculation of hot money. Without its own development strategy, risk discrimination and comprehensive and long-term strategic planning, foreign exchange reserves will soon be spent, destroyed and eventually exhausted.

Secondly, the strategy of collecting money from the people is still struggling. The topic of foreign exchange reserves in China has been going on for more than 10 years, but so far the focus is still at the origin: there are too many foreign exchange reserves and the efficiency is insufficient. Although China has the largest foreign exchange reserves in the world, it is a smaller foreign exchange market in the world, and even the foreign exchange market has not been fully opened.

At present, China's financial reform and development are at an important juncture. On the one hand, we have huge foreign exchange reserves, and the symbol of national wealth has attracted the attention of the world and the pursuit of speculators. On the other hand, China's central bank's hedging costs have increased, and the fear of shrinking the price and value of foreign exchange assets is increasing. Refusal or reduction of US dollar assets has become a trend and trend. Such too short-term and simple cognition and demand from the private sector and society will directly affect the implementation and process of China's strategy of collecting foreign exchange from the people. Under the background of the unprecedented financial crisis, this way of thinking is the greatest resistance to the loss of our strategy of hiding money from the people.

It can be seen that this kind of "alarmist talk" actually warns us that the problem of China's foreign exchange reserves is manifested in three aspects: first, it pays more attention to quantity than efficiency; Second, there are too many short-term prices and not enough long-term systems. Third, there are too many short-term countermeasures and the actual effect is not good. As a result, the huge foreign exchange reserves have become a simple burden and burden for our country and have not fully played their role in promoting our reform, construction and development. Therefore, we should refer to the countermeasures we have already taken to reduce market investment and prevent hot money intrusion in response to our reform and development needs through capital injection, investment and special financial policy tools. At the same time, we can consider the convergence mechanism between foreign exchange and RMB, break the passive situation of being restrained by dogmatism of foreign exchange reserves, and solve our own economic and financial problems flexibly and effectively.

China Running Out of Dollars: PBoC Cuts RRR Again

Nothing has changed. The slow motion global dollar deflation is still underway. The odds of a large, one-time devaluation of the renminbi is increasing, not falling. The size of the eventual adjustment is growing as well.

Alhambra: China RRR: Surprise But No Surprise

In July 2015, just before everything broke, PBOC funding of the Big 4 State-Owned Banks was less than RMB 100 billion. As of the latest figures for December 2016, it was RMB 1.17 trillion.

...The RMB is flowing outward from the central bank, but money markets are increasingly starved of funds.

With the New Year holiday approaching, the PBOC stunned the mainstream by reducing the RRR for five of China’s largest banks today, and doing so by a full percentage point. The unconfirmed reports that I saw suggested this was only a temporary measure, in addition to another 28-day funding conduit that was just added for “major commercials”, but it doesn’t make any sense given the trillions in RMB already flowing unless you take account of that “something” else.

Straits Times: China cuts reserve ratios for 5 big banks temporarily amid cash squeeze

China has allowed its five biggest banks to temporarily lower the amount of cash that they must hold as reserves, to ease seasonal liquidity tightness amid huge cash demand heading into the long Lunar New Year holiday, three sources with direct knowledge of the matter said.

The People's Bank of China (PBOC) has cut the reserve requirement ratio (RRR) for the banks by one percentage point, taking the ratio down to 16 per cent.

It will restore their RRR to the normal level at an appropriate time after the holiday, according to sources.

"This is a temporary adjustment, and is mainly in response to the cash withdrawal, tax payment and reserve payment. (The RRR) will go back to the normal rate after the Lunar New Year holiday," one source said.

The PBoC made a similar move in 2015. WSJ: China Cuts Reserve Requirement Ratio

FX Reserves Fall to 13.5pc of M2 at Year End

There are now 51 yuan per U.S. dollar of forex reserves, and reserves can only cover 13.5 percent of M2.

Where you place your bet now depends on if you believe Chinese government actions represent prudent prevention or reveal growing panic.

Reuters: Exclusive: Banks forced to cover tracks of China's forex regulator

China's forex regulator is telling banks to keep its instructions about curbing capital outflows secret and to ensure that research analysts keep any negative views about the yuan's prospects to themselves, several bankers said.

...SAFE, which is part of the People's Bank of China (PBOC), is insisting in oral instructions to dozens of banks that they don't reveal its role in such restrictions, six bankers said, which was damaging their relationships with clients since they were unable to explain why they were turning away business.

Capital controls are on.

Reserve Decline Worse Than 1997 for China

China, is now playing a soul-stirring "capital outflow sniper", which is "China's economic defense."

The last time China faced the threat of significant outflows in the mid-1990s, it did not utilize capital controls, in part because it had much tighter controls to begin with. Now is a different story.

Only in the past two months, we see regulators shoot four times, the goal is clear, cut off the capital outflow through black channels: in October, UnionPay cut off Hong Kong insurance payment channels; November, bitcoin, huge foreign investment projects, Shanghai Free Trade Area strengthen the review of overseas investment channels. Almost all the central bank's big news are related to combat capital outflows.

We then lengthen the timeline, you will find that from the end of last year to stop some of Deutsche Bank's foreign exchange business, to November this year, the RMB exchange rate fluctuations every time, are accompanied by capital outflows warning and regulators war.

Regulators are so battle ready for capital outflows with rarely seen poewr, even in the mid-1990s when China faced a serious capital outflow, that was not the case.

This "capital outflow sniper war" continues, however, it can be said that results are slowing in the last six months: in the first stage, monthly outflows fell about $50 billion, and the last seven months were reduced by about $10 billion.

Why launch a war now? Some numbers to put the situation in context:

However, it is unexpected, accompanied by the overseas investment surge, the speed is almost out of control. Reflected in the foreign exchange reserves, in June 2014 reached its peak and after a sharp turn, two years later it has dropped dropped by $870 billion.

What is the concept of $870 billion? The total resources of the IMF total $660 billion. During the entire Southeast Asian financial crisis, the world's foreign exchange reserves fell $350 billion, and in two years, China's foreign exchange reserves shrunk by more than 20%. Is not difficult to foresee, if left alone, 10 years later the foreign exchange reserves would be dismal.

Reserves have already declined by more than in 1997 on a percentage basis and there hasn't been any crisis yet.

iFeng: 中国正在进行一场“资本外流狙击战”

Depreciation Bites: Dollar Home Prices Falling in Most Cities

The renminbi devalued 5 percent from July 1 through today. Of the 70 cities in the NBS housing survey, only 22 have price rises that exceed the devaluation. All 22 have implemented buying restrictions.

iFeng: 中国仅22城房价涨幅超过人民币贬值速度 有你家吗？

The right column in the chart below shows the second half price rise. The left column shows the October price change.

The brakes are also being put on real estate companies. Caixin covered some of the tightenting last month: Regulators Beef Up Curbs on Property Developers' Efforts to Generate Funds

Specifically, the two government bodies will no longer approve requests from property firms to issue bonds at home or overseas, according to sources. Tapping the Hong Kong stock market for funds will also be out of the question because the CSRC will reject an IPO plan if it's filed by a real estate company, sources said.

The table below is from the iFeng article, showing a collapse in debt issuance.

Exchange-rate adjusted home prices are decelerating or falling.

Renminbi Depreciation and Real Estate, A Shares

Analysts believe that in the medium to long term, the real exchange rate and real estate prices showed strong correlation. If the exchange rate appreciation is expected to attract capital inflows, if the central bank did not fully hedge foreign exchange capital, the base currency of the banking system will be increased, the real estate business will further ease credit constraints, thereby pushing up real estate prices.

If the devaluation of the renminbi is expected to strongly, capital outflows will lead domestic asset prices, sensitive funds rate will naturally fall. Such as the current dollar rally, renminbi devaluation, many domestic HNWIs tend to go overseas to buy a house to hedge risks.

A shares:

Analysts said that in the trend of RMB fluctuation, along with depreciation will be devaluation of A shares.

There are two related reasons: on the one hand, devaluation of the currency valuation leads to falling asset prices, resulting in financial, real estate and other related sectors to weaken, drag down the broader market; on the other hand, devaluation is expected, once formed, will lead to outflow of hot money, A shares liquidity will rapidly tighten.

There are some analyst reports that say RMB devaluation might hit aviation, internationally financed real estate companies to bring greater financial burden, in turn the falling valuation of stocks may even reduce local real estate sales prices.

Some analysts pointed out that from the 2012 experience, defensive sectors such as utilities, telecommunications and medical were not affected by macro uncertainty and currency fluctuations.

iFeng: 人民币持续贬值这类人将损失惨重 楼市波动大

USDCNY Next Target 6.80, Followed By Breakout in 2017

SCMP: China’s central bank lets yuan fall below defensive line

The People’s Bank of China set the mid-price of the yuan against the US dollar at 6.7008 on Monday, falling below the 6.70 line it had guarded in the last few months and fanning speculation it would allow deeper depreciation with the yuan’s inclusion in the IMF’s Special Drawing Rights.

The last three times the property market turned down, in 2008, 2011, and 2014, it was followed by yuan depreciation pressure. In 2008 it was ended by re-pegging CNY to USD. In 2011, it was ended by money printing and revival of housing. In 2014, it never revived. A secular bear market in the yuan began and it has yet to complete. If a drop in real estate prices leads to another drop in the yuan, a break below the 2008 re-pegged value in the yuan is highly likely.

Back in 2011, prices began falling 7-months after housing restrictions were implemented. Volume fell immediately, but prices continued rising, albeit at slower pace, until year-on-year declines began in September 2011. In February 2013, rules were tightened again and sales immediately plummeted. Prices started falling in September 2013 and didn't bottom until 2015.
iFeng: 调控后楼市成交速冻 数据显示7个月后房价会跌

How to Break the Housing Bubble? Let the RMB Float

How can China burst the housing bubble? Some choices are examined, with a free-floating yuan considered the most lethal kill shot, followed by rising interest rates and a stall in credit growth.

iFeng: 如何摧毁高房价？ 真正有用的是这几招

1, the yuan freely convertible

Lethality: ★★★★★★★

If the yuan fully realize the significance of freely convertible, which is open all restrictions on capital account, the Chinese property market, the stock market will collapse rapidly. The things you want to know with the toes will be able to: deep north central area of ​​a 150-square-meter high-rise residential, you can go to the city to buy the most expensive US home prices better "house", that is, we are talking about single-family house. If you go to the middle of the small city state, or even to buy 10 sets of luxury "house", or buy a large low-income class living "house" neighborhoods.

Not to mention the stock market, stock prices look Comparative "A + H" shares will know. Therefore, the RMB at this stage, it is absolutely impossible to freely convertible. After Golden Week, foreign exchange management will be strengthened, never relax.

2, rising interest rates

Lethality: ★★★★★

Rate cities financial attributes more and more obvious, so more and more sensitive to interest rates. Current commercial mortgage rates at historic lows, fund loan interest rates so basically, this is the real estate "policy Bull," the fundamental cause of the current. But from a global perspective, the major countries are in the era of low interest rates, even if the interest rates in the United States, interest rates are still low.

Since China's real economic downturn, it is difficult to change the low interest rate environment in the short term. If interest rates rise trend occurs, then there must be a house prices fall.

3, M2 stall

Lethality: ★★★★★

M2 broad money is short, and its year on year growth can be understood as the central bank issuing speed. Early reform and opening up, M2 growth rate was close to 300% GDP growth, then gradually down to 200%. From historical data, while M2 growth rate down to around 150% GDP growth, often there will be shortage of money, leading to soaring interest rates. China's "printing speed (M2 growth)," Why must exceed the "wealth growth rate (GDP growth)"? I have repeatedly said in the column, this is because investors are local governments and state-owned enterprises, inefficient problem is difficult to avoid.

The current GDP growth rate of around 6.5% to 6.7%, if less than 12% long-term growth rate of M2, or even less than 11%, interest rates will rise, prices will be suppressed. If the M2 growth rate soared to more than 14% or even 15%, then prices will rise sharply.

4, Raise Down Payment

Lethality: ★★★★

Commercial loans, LTV (especially the former) fund loans, in fact, buyers leverage. Down into several lower (LTV is higher), the higher the leverage, the more help to stimulate the housing; on the contrary, the higher the down payment into several (LTV is lower), the lower the leverage, the more It helps suppress prices.

If you cancel the real estate mortgage, you can only buy the full amount, then this trick of mass destruction will be more than raise interest rates. Golden Week this round of the New Deal years, many cities have introduced a number of initiatives to raise the down payment, but limited efforts.

5, Raise Taxes

Lethality: ★★★★

Tax increases on the property market hit, also vary. Such as Hong Kong's "two strokes hot," really take control of prices; Vancouver heavy taxes, but also subdued the rebellious rates. The reason I give four stars because the mainland Chinese cities in the use of tax instruments, the general are more gentle. Only Shenzhen through twice a year to assess the price increase of the way, the second-hand housing transactions deed increased by 1 times more.

In addition, the government can levy property taxes, vacant tax, imposed strict housing transfer tax and other ways to control prices. Overall, the vast majority of the current property market in the mainland cities of tax cuts instead of tax increases.

6, Increase the supply of land

Lethality: ★★★★

How can I make "bread" price? Of course, is to increase the "flour" supply, while breaking the monopoly of the bakery. Currently in the field of real estate, no monopoly on the supply of housing developers any city. Therefore, the best way to stabilize the property market, is to increase the supply of residential land.

Unfortunately, hot city generally adopted a starvation diet, residential land supply less than normal, and some are even very small. In this case, how can housing prices do not rise?

7, Restrict Purchases

Lethality: ★★★

Vary the intensity of the restriction, in general influence than the previous several measures. For the moment, Beijing, Shanghai restriction greatest efforts, Shenzhen, Guangzhou followed. Second-tier cities are hot recovery restriction, but the intensity is not strong. In most cities, but also does not allow foreigners to pay social security situation, buy a house.

Strict strict restriction policy, the key depends on local hukou capacity is not readily available. For example, to get Beijing accounts than Shenzhen accounts difficult to get several times more, then Beijing's restriction efforts will certainly be significantly more than in Shenzhen.

HK RMB Deposits Falling In Early 2015

Data through February.

PBOC Rate Cuts Killing the Yen-Yuan Carry Trade

Traders have been borrowing yen and investing in yuan to earn a 6-7% return, but the combination of rate cuts and weaker yuan has reduced expected profit down to 4% (if not lower). A steady outflow from carry traders will put additional pressure on the yuan going forward.

In his view, the reason why these institutions eager to sell yuan, mainly because they are good yuan - yen carry trade has been unable to achieve their desired income value. Yen in the past - an annual risk-free interest rate of RMB trading close to 6-7% of net income. But China enters rate cut cycle, combined with a sharp slowdown in the yuan against the yen appreciation, the entire yen - the actual income of RMB carry trade may shrink to 4 percent, as investment dollars betting on the dollar to rise.

"Now these organizations are most concerned about is whether the central bank will cut interest rates 50 basis points year over, because it means their renminbi - the yen carry trade deficit may occur," he bluntly.

21st CBH: 套利资金撤离NDF市场 人民币四连跌

PBOC Cuts Interest Rates, Rate Cutting Cycle Still in Early Phase

The PBOC cut interest rates by 25 basis points, lowering the one-year loan rate from 5.60% to 5.35%. The deposit rate falls from 2.75% to 2.5%. However, the PBOC increased the deposit band to 130% of the official rate, up from 120%. Banks could pay 3.30% interest on deposits before the cut, today it is 3.25%. This ends up being a rate cut across the board, unlike in November, when deposit rates were allowed to go up.

Liu Shan, deputy editor of the China Business Times, discusses the reasons for rate cut. He notes that deflationary forces in the economy and a monetary phenomena and lists the causes, which include

...the failure of the transmission mechanism of commercial banks. On the one hand is the lack of bank credit, mainly reflected a drop in demand in the real economy of credit, banks are more cautious lending, securities companies and banks to use the "two financial" business to put money into the stock market; the other is debtors are using new credit to repay old credit, not to support new investment. These two reasons lead to central bank liquidity not effectively flowing into the real economy, inflation will not be able to support prices.

Followed by contraction of the money supply base money growth. This is a consequence of the outflow of funds, recently the phenomenon of foreign exchange decreased significantly, while creating the conditions for the normalization of the deposit reserve ratio, but the money supply growth rate declined, no doubt suppressed the general price level rose.

In front of the complex world economic situation, China's macroeconomic authorities presumably deflation problem is getting a headache, because the long-term economic recession would lower prices, thereby affecting employment.

How to deal with deflation footsteps getting closer, is the central problem of the urgent need to face.

In terms of housing, the new rate cuts will save a borrower 144 yuan per month on a ￥1 million, 20-year mortgage. (央行再次重磅降息 百万月供减少144元楼市迎利好) Combined with the November cut, borrowers can save 378 yuan per month. This article is also optimistic about the rate cut boosting the real estate market, even in fourth-tier cities, which seems like a stretch. They are correct in expecting further rate cuts though.

Pressure on the yuan will increase as both devaluation and interest rate cut expectations harden.

ZeroHedge has further coverage of the rate cuts, including Goldman's take: China Cuts Interest Rates, Takes Number Of Central Banks Easing In 2015 To 21. The post has this chart showing the housing decline in China thus far is worse than the initial decline in the U.S.

PBOC To Widen Yuan Trading Band?

WSJ: China’s Yuan Tests Lower Limits

As Beijing makes efforts to lift the economy—on Wednesday China’s central bank said it would lower its reserve requirement ratio for banks by 0.5 percentage point, effective Thursday, which will boost liquidity--there is building speculation that it is getting ready to widen the yuan’s trading band.

The recent trading pattern signals a shift, as typically traders don’t move the currency far from where the central bank sets its daily reference rate, the point at which it allows the yuan to trade 2% above or below.

Bloomberg: Is China Preparing for Currency War?

At the same time, something else is afoot in Beijing could have even greater global impact. The central bank is cooking up measures to widen the band in which its currency trades. People’s Bank of China officials say it's about limiting volatility as capital zooms in and out of the economy. Let's call it what it really is: the first step toward yuan depreciation and currency war.

Chinese opinion takes the opposite position. They think the PBOC doesn't want to weaken too much, and therefore a widening of trading band is less likely (or may be delayed).

QQ Finance:人民币贬值压力大 短期内汇率波动区间难以扩大

Monday, the People's Daily commented that the recent decline is mainly due to the dollar being too strong, China should make full use of the trading band to suppress the downward trend yuan .

In other words, the devaluation pressure on the yuan is a result of excessive dollar strength which will eventually reverse. Weakening the yuan would leave it excessively weak one the dollar corrects.

China's history from the Asian Crisis and the 2008 crisis shows that it opts for stability during a crisis. Conditions have changed due to slower economic growth and an increase in debt, but the institutional bias for a stable currency remains. Markets will have to overwhelm the PBOC if there's to be a serious devaluation in the yuan.

China Launches the International Gold Board

International board opened today with a price of ￥245.28 per gram.

Videos below are in Chinese.

The report below is about the god board as part of the internationalization of the renminbi. International traders do not need to change currency in order to trade on the exchange. Around 1:50, a woman from the Shanghai Institute of International of Finance Center says the new board will allow China to increase its influence and slowly increase its say in the market.



More discussion here.

How Much Yuan Devaluation Can the Americans Bear? Communist Charles Schumer Won't Like It; More Reason to Own Gold

The U.S. dollar is doomed as reserve currency for the same simple reason the Swiss franc could never serve as the global reserve currency: the national economy will be too small for the future global economy. In order to fund the world's need for reserve assets, the U.S. must run an increasingly large trade deficit, and if the deficit were to continue growing, it would lead to a currency crisis.

On the flip side, the U.S. can't cut its trade deficit too much as long as it remains the printer of reserve assets. The world doesn't want to see the U.S. suddenly cut its deficit and reduce its need for money printing. The slowdown in emerging markets in 2013 was partly a result of the taper talk and the current slowdown in China is part of it as well. Almost everyone is stuck because the global imbalances are so large that no one is willing to bear the cost of reform, except for countries in unique positions such as India. The Chinese complain about U.S. debt levels, but if the U.S. actually cut its debt the U.S. trade deficit would drop and the renminbi would rise in value (it's still mainly dollar backed), guaranteeing a deflationary crisis in China. A U.S. government that actually behaved responsibly would be a taper on steroids.

This is why the U.S. is working with the IMF to replace the U.S. dollar with SDRs, as explained in Jim Rickard's excellent Death of Money. It is also why China's government is loading up on gold. Any misstep and the system is going to collapse before world leaders can find a solution, and given negative social mood is leading to increased tensions, the window for global coordination is also closing. On the current path of international relations, forget Bretton Woods III: the world may be headed for a full fledged financial war. This is why it makes sense to hold physical gold: there may not be a global fix for the world financial system and even if there is one, the enmity between China, Russia, the U.S. and other powers may be so great that a centralized solution, such as the IMF issuing SDRs as global central banker, may not last. In the absence of such a solution, gold is the obvious fall back reserve asset of choice.



It's also important to point out that while China wants the yuan to be a reserve asset, China doesn't want to be the reserve currency because then it would get all the problems that come along with it. It also doesn't want the yuan to be a reserve asset too soon because then the U.S. would press it to behave as its equal in financial matters, donating equal amounts for global financial bailouts and truly opening its markets. Finally, China's financial markets are nowhere near large enough to serve as a credible alternative yet, though the growing muni bond market helps. Ironically, if China did experience a huge financial crisis right now, it would accelerate the internationalization of the renminbi through devaluation (which would remove the devaluation fear that prevents the opening of the capital account) and a massive increase in the amount of Chinese debt assets, which could serve as reserve assets.

Now to the Chinese articles. The yuan fell again today and the PBOC midpoint hit an 8 month low. The questions being asked include: how does a weak yuan affect the U.S.? How much can the U.S. bear?

Here is an article on 5 ways the devalued yuan affects American wallets: 人民币走弱可能影响美国人钱包的5种方式. I enjoyed this bit:

Communist party member Charles Schumer of New York has also been concerned about this issue, whether the RMB is to appreciate or depreciate, the Chinese government should let the market decide and should not intervene.

That is not a mistranslation.

There is also this article asking how much can the U.S. bear? It mainly looks at the rise of the renminbi and the gold market in Shanghai, nothing new for China watchers.
美元能忍人民币多久？

According to foreign media reports, U.S. dollar is deeply threatened by the renminbi, there are indications that it will one day be its equal.　

Someday in the future of China's economy will be close to or exceed U.S. influence.

Russian President Vladimir Putin visited the first day of China, Bank of China and Russia signed the non-dollar settlement agreement, the two banks are Russia's second largest bank VTB and Bank of China, the two sides will invest in banks, inter-bank loans, trade finance and capital market transactions to domestic currency transactions. This means that the two banks in future transactions, you will no longer need to use the U.S. dollar.

In recent years, many countries are gradually reached a consensus gradually reduce the dollar in the areas of trade, investment and other payment settlement and the proportion of reserves to eliminate the negative effects of dollarization and currency mismatch brought about by a decrease of $ issued flood hazards. Russia continues to expand bilateral currency settlement means that the two big powers in this direction has taken a solid step forward.

Face gradually embarked on the world stage in RMB , U.S. dollars deeply felt threatened, competitive currency this space there is a great potential growth, there are indications that it will have the ability with which rival.

With the internationalization of the Chinese yuan, the use of the renminbi market is gradually expanding, each renminbi cross-border business and offshore renminbi clearing center have sprung into being.

People's Bank of China website data recently released data show that as of March 2014, foreign institutions and individuals holding domestic RMB financial assets amounted to 3.56 trillion yuan, compared with 2.88 trillion at the end of 2013 increased by 682.7 billion yuan. Which holds stocks 319.287 billion yuan, 512.349 billion yuan bonds, loans and deposits of 746.843 billion yuan 1.983982 trillion yuan.

This is the first published case of the Bank of RMB assets held by foreign investors to the outside world. While in the first quarter of devaluation of the environment, foreign institutions and individuals holding financial assets remain within the renminbi was expansive trend.

"With the continuous advance of RMB internationalization process, the distribution channels of more cross-border capital flow." UBS Wealth Management chief investment strategist at aquiline China recently said, "Although the first quarter yuan fluctuate significantly in the short, but foreign institutional investors people do not think that the RMB will continue to depreciate, and long-term bullish on the RMB exchange rate . "

Legg Mason's Western Asset Management portfolio manager Desmond Soon also pointed out that overseas central banks to hold renminbi reserves are steadily increasing demand, because the yuan is increasingly being used for trade settlement among.

However, faced with blooming yuan, some analysts said the yuan is still far failed to challenge the dollar's status, let alone replace the dollar.

Professor Dyson College of Cornell University Svalbard - Prasad wrote that London and Frankfurt, the world's major financial centers are eager to conduct RMB business, China has undoubtedly played an important role in international trade and finance. Recent speculation that the outside world, China's economy will soon overtake the United States or to further enhance the interest of his country for RMB business, also prompted many people believe that the RMB will soon dominate the global.

However, the article points out, the lack of a factor yuan to challenge the dollar: the global trust in China. In order to achieve monetary dominance, China needs economic strength. In this regard the dollar has a great advantage.


In the wake of the global financial crisis, the situation is particularly evident. Despite the near-collapse of the U.S. financial markets, public debt levels rise, the Fed was forced to launch a large-scale expansion of monetary policy to support the economy, but compared to most other currencies, the dollar is still strong.

This is because the global economic turmoil, investors seeking a safe haven and around the purchase of U.S. Treasury bonds. Despite the low U.S. Treasury yields, but global investors now hold more than $ 5.7 trillion of U.S. Treasury bonds, in addition to a number of other U.S. assets. Since the financial crisis, the U.S. share of global foreign exchange reserves of the share has remained stable.

Of course, along with the internationalization of the yuan and Shanghai to build the vault FTA, China's influence on the precious metals market will also be growing, the next day the Chinese economy will be close to or even surpass the U.S. influence.

Kyle Bass says renminbi devaluation is a possibility.

Kyle Bass On China's "Contraction" And "The Fed's Worst Nightmare"

China’s economy isn’t just slowing down, according to Bass: It’ contracting. While China’s published rates for annual growth are still positive, Bass said the nation’s economic growth was negative from the fourth quarter of 2013 to the first quarter of 2014.

That is a result of excessive government spending on unproductive sectors of the economy. Bass said the People’s Bank of China (PBoC) has been more aggressive in its quantitative easing (QE) that the Federal Reserve has, but much of that money has gone into unproductive credit expansion.

China’s banking assets have grown to over 100% of its GDP in the last three years, according to Bass. If the U.S. had engaged in similar policies – which he said would translate to $17 trillion in lending over that time period – it, too, would have achieved more than 7% GDP growth.

China’s banking assets now total approximately $25 trillion, or almost three times the size of its $9 trillion economy. Its low default rate on bank loans – about 1% – is about to rise, according to Bass. Much of that lending is construction-related. Bass said that 55% of China’s GDP growth has been in the construction sector. The marginal return on those loans must be very small, he argued.
“A rolling loan gathers no loss,” Bass said, “and that’s what’s been going on in China for the last few years.” He said it is impossible to believe China could “manipulate” the inputs of its financial system without losing control of the outcomes.

Deflation is also threatening China. Bass said that its GDP deflator is now below zero. He expects the PBoC to engineer a devaluation of the renminbi as a way to stimulate exports and avert further deflation.

Bass said that if non-performing loans go from 1% to historical norms “somewhere in the teens” with loss severities of 100% for the worst loans, then China would delete its $4 trillion of foreign exchange reserves. Bass implied that China would need those reserves to stabilize its banking system, though he did not say so.

China’s leaders are fully aware of the dangers its economy faces, Bass said, and they hope to slow growth in a measured fashion, including through the restructuring of its banking system. “The jury’s out whether or not they can do it,” he said. “We actually believe they might be able to do that and that GDP [growth] is just going to slow down a lot more than people expect.”

“I’m not saying it is a calamity, a disaster or it’s going to end badly for the world,” Bass said. “All I’m saying is China is slowing down a lot faster than people think, and you need to think about how to position your portfolio for this.”

Bass advised against shorting Chinese equity as a way to capitalize on his forecast. Instead, he said, investors should look at China’s trading partners – Australia, New Zealand and Brazil. Those countries will be forced to loosen their monetary policy, raising rates and creating carry-trade opportunities.

I expect Chinese equities will reach their nominal and possibly real bottom either just before or just after devaluation of the renminbi.

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.


人民币贬值悬疑：套利、对赌还是唱空做多？

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)

The Informational Power of the Offshore Yuan Exchange Rate

In this video, there is discussion of the offshore and onshore renminbi and how a falling offshore yuan leads to an outflow of dollars. Chinese can exchange yuan for dollars on the Mainland at CNY and then go to HK and exchange them at the CNH rate. Either that or the PBOC steps in and defends the yuan as it did in 2011 and 2012, by buying yuan. The move in the yuan earlier this year was orchestrated by the PBOC: there wasn't a dip in forex accumulation and CNY led the market lower (higher in the chart below). The latest move is not being led by CNY, but by CNH.

CNY is the dog and CNH is the tail, but this tail can wag the dog. From earlier this year: An Introduction To How China's Offshore Renminbi Market Works

"The gap between onshore and offshore yuan spot is quickly narrowing — probably a result of Beijing trying to close the arbitrage window and deter capital inflows," says Robert Savage of Track Research. In settling trade in renminbi, many companies accept CNY payments from Chinese importers and change that into dollars at the more attractive offshore rate. And borrowing costs are much cheaper in the CNH bond market than in mainland China. "Fervent demand for renminbi from international investors has driven down rates in Hong Kong and thereby created incentives for companies considering using the renminbi for trade or financing," explains Financial Times correspondent Robert Cookson. "Foreign exporters have cottoned on to the fact that the renminbi-dollar exchange rate is at a premium in Hong Kong compared with the mainland. To arbitrage the two markets, these companies accept renminbi as payment from Chinese importers, then swap the cash into dollars at the more attractive offshore exchange rate." The expectation that the yuan will continue to appreciate has been a key factor driving demand for CNH.

Now it is again moving the other way, as it did in 2011 and 2012.

The crucial thing to understand about the offshore market is that the yuan floats freely and doesn't fluctuate within a tight band like in the onshore market, and is free of Beijing's control in that regard. This allows for different prices on a single currency and creates those arbitrage opportunities that the PBoC is now trying to squelch.

It is a given that the PBOC has a large war chest and can intervene, but it would be unwise to discount the value of a market price. The PBOC has total control over CNY, but the informational and psychological value of CNH is far greater than CNY. The PBOC can control CNY and it can intervene to influence CNH, but it cannot control CNH. It cannot unmake the offshore yuan market without reversing internationalization and thus, unless it does take a major policy step backwards, the CNH does potentially have the power to force the PBOC's hand in extreme cases. There's evidence to back this up. Here is an IMF report from 2012: RMB Internationalization: Onshore/Offshore Link

s. At the same time, the rapid expansion of RMB trade settlement and issuance of RMB-denominated bonds by the Chinese government and corporates in Hong Kong, SAR have created some feedback channels across onshore (CNY) and offshore (CNH) RMB markets. We employed a bivariate GARCH model to understand the inter-linkages between onshore and offshore markets and found that, while developments in the onshore spot market exert an influence on the offshore spot market, offshore forward rates have a predictive impact on onshore forward rates. We also find evidence of volatility spillovers between two markets. Overtime, those spillover channels would be expected to grow as the offshore market further develops.

Mainland traders value a market signal.

Empirical results suggest that (i) developments in the offshore spot market could influence the onshore spot market in terms of both level and volatility during a period of offshore market dislocation, and (ii) the onshore market drives price movement offshore under normal market conditions, while developments in the offshore market could still affect the volatility of price movement in the onshore market.

Normal conditions, aka when models work. What happens in the periods when markets experience great volatility, change their pattern of behavior and even move to new equilibriums?

We can also find evidence that, despite wide-raging capital controls on flows between onshore and offshore markets, developments in the offshore market could influence onshore markets through volatility channels. Given that volatility in the offshore market has been higher than that in the onshore market, these findings imply that offshore market developments should be monitored carefully, as it could impact exchange rate stability on the mainland. In addition, during a period of offshore market dislocation, developments in the offshore market could influence the onshore spot market in terms of both level and volatility possibly because market participants believe that price development offshore better reflect global market conditions.

Also worth considering in regards to renminbi depreciation from a 2013 paper: Development of the Renminbi Market in Hong Kong SAR: Assessing Onshore-Offshore Market Integration

The estimation results reveal an asymmetry in the speed with which capital inflow and outflow work to narrow divergences in the offshore and onshore exchange rates. Arbitrage is much slower when the CNH is stronger than the CNY than when it is weaker, specifically:

 When CNH trades at a premium to CNY, arbitrage takes an average of 25 days to close half the gap back to the band (the “half life”) (Table 1). Capital outflows from the mainland are needed for this arbitrage, and work to increases the supply of offshore renminbi liquidity. This was the case in the November 2010-May 2011 episode.

 When CNH trades at a discount to CNY, arbitrage takes an average of 6 days to close half the gap back to the band. This involves capital inflows to the mainland, reducing the supply of offshore renminbi liquidity. This was the case in September 2011-October 2012 period.

The faster rate of convergence in the latter case—when CNH trades at a discount to CNY—implies that capital controls are less restrictive with respect to arbitraging capital inflows to the mainland than outflows from the mainland. This difference may reflect the fact that recent liberalization measures have focused more on easing constraints on inflows than outflows (see section IV below), such as the opening of channels for renminbi denominated FDI and QFII that can be used to bring offshore renminbi funds onshore.

When CNH is weaker, Chinese exporters do not bring their dollars onshore. Exporters hoard dollars and wait to buy yuan at the cheaper CNH rate. The arbitrage can close rapidly because they're free to exchange at any time. Foreigners looking to buy offshore need to pay a premium to entice sellers during a yuan rally. This is caused by capital controls, but is also a feature of a multi-year bull market.

When the market is operating under normal conditions, everything seems to indicate yuan strength and China has tight controls on inflows to slow yuan appreciation. But if the market is not normal— if there are no bidders for yuan, but instead a growing demand to hold dollars both onshore and offshore— the offshore yuan is free to tumble. And if CNH tumbles and the financial system sees a dollar shortage, the PBOC has to follow CNH lower to bid the dollars back or it has to spend its dollars (or let them be spent by banks and citizens) to halt the decline in CNH.

Update on China charts

If current trends hold, the yuan may begin depreciating by the fall.

Money supply growth continues to slow and unless that trend reverses, Chinese stocks will not reverse their downtrend.

Look for loan growth to print sub-15% YoY growth when the yuan depreciates.

The Gold Smash is the New Opium War

Liu Jun Luo is in form:

The gold smash is designed to wipe out the people with high cost basis in gold. But if gold plunges 10% in a night, why was the Dollar Index so weak, and the renminbi hit a new high?

This is WWII strategy. First, use tanks and artillery to blast a hole in the lines, and then send in the army to rapidly and violently penetrate the lines. Well, in the financial war, gold is the tanks and artillery, the dollar index is the army. The Americans and Chinese "Yeltsins" are working together to raise the renminbi exchange rate and pull in more people to buy the dips. Today is the "gold gap" campaign, but by the end of April or in early May, this will shift to the "dollar index army" and it will be rapid and violent.

Military war and financial war use different results to reach the same outcome.

黄金大抄底与“新鸦片战争”

Liu Jun Luo predicts 40% devaluation of renminbi in 2013

Liu Junluo's prediction of a crash in the gold market didn't come to pass, but he's sticking to that call. In general, he sees Romney winning and strengthening the U.S. economy, leading to an increase in real estate and assets prices, pulling in foreign capital and raising the value of the U.S. dollar—a net deflationary force on the global economy that will attract capital specifically from China.
罗姆尼大有希望啊！

我预计最迟2013年第三季度人民币贬值，如果，中国央行确实是拼命推移到那个时间段，人民币贬值那就应该是一次性贬值不低于40%。人民币如果发生一次性贬值，国内所有期货都可能在一次性贬值后的2~3月时间全部关闭。

He notes earlier in the piece that a lot of Chinese gold was purchased at high prices and he's specifically looking at the futures market. He obviously recommends investors hold U.S. dollars, but if they are in gold they will not see the renminbi price collapse in the end.

I don't agree with his economic reasoning, but his posts are widely read in the blogosphere and from this post answering reader questions and also the comments on posts, it's clear that the theme of buying U.S. dollars for investment is spreading. The seeds of a large renminbi devaluation have been sown in China, with the U.S. dollar seen as the most profitable way to protect against it.

Your last chance to sell Chinese real estate; China's three strategic errors

Liu Jun Luo writes that the April 2011 bounce to 3607 level for the Shanghai Composite was your last chance to escape Chinese stocks (the Shanghai Composite peaked in August 2009 and is currently at 2051). The current bounce in real estate is your last chance to escape from housing.
3067点是最后的逃命机会和房地产的最后逃命

目前，他们被美国骗了，干了3个战略性错误的事情，（一）4万亿财政扩张；（二）大量购买了欧洲债券；（三）2010年6月，让人民币继续升值。为了，弥补这些战略性错误，中国央行未来会选择牺牲股市和房地产。

Presently, they've (Chinese central bankers) been deceived by America, adopting three strategic errors, (1) the 4 trillion yuan stimulus, (2) massive buying of European debt, (3) allowing the renminbi to continue appreciating in June 2010. In order to make up for these strategic blunders, the central bank with choose to sacrifice the stock and real estate markets.

The response to China's debt problem will be large scale debt purchases and renminbi devaluation.

To wit: Is the PBoC starting to liberalise its rate regime?

Since July 2012, this has clearly changed, likely in recognition of the shift in liquidity impact of the PBC’s fx operations. The PBC is now comfortable conducting frequent reverse repo operations (grey bars on Chart 1) to quickly offset any imminent liquidity squeeze.

To which FT Alphaville replies:

In short, it’s acting increasingly like western central banks.

Although there's another idea:

Another theory for why the reverse repos have been used so far, rather than an RRR cut, is that the Party is waiting until after its congress, which is happening either in October or November, before making a major easing move.