Strong fundamentals push yuan’s appreciation

By Li Hong Source:Global Times Published: 2017/6/7 22:23:39

Illustration: Peter C. Espina/GT

Entering June, a piece of good news is greeting thousands of Chinese families who have children studying in the US, and expats working in China: The Chinese currency, the yuan, is making healthy gains against the US dollar.

On Wednesday, the People's Bank of China set the greenback's daily midpoint at 6.7858 yuan, the strongest rate for the yuan since November 10.

Short-term yuan appreciation is now expected, followed by medium-term stabilization, underscoring a constant improvement in sentiment toward the performance of the world's second-largest economy.

In both the offshore and onshore foreign exchange markets, investors have increased their long "buy" positions on the yuan from two weeks ago to the largest in almost two years, according to market observers. Bullish bets on the Chinese currency have kept active and more than doubled to the largest number since the end of 2015.

After appreciating, the yuan is widely expected to keep steady and stay between 6.70-6.90 to the US dollar for a protracted time, market insiders say.

The bearish outlook for the currency that prevailed for much of 2015 and 2016 is now diminishing, partly because China's infrastructure investment will remain at a fairly elevated level. This will be led both by massive city-building efforts in the Xiongan New Area and elsewhere in central and western areas of China, and by strengthening industry that is increasingly armed with high technology.

The list of sound Chinese fundamentals backing up a resilient currency goes on. The much-esteemed Belt and Road initiative will ratchet up building material exports on a scale never seen before, as well as boosting the trade volume between China and countries participating in the Belt and Road. Also, the decades-long tradition of high saving rates among Chinese households is unlikely to change, providing reliable funding to support investment.

The meteoric improvement and upgrading of the country's defense research and manufacturing capability are also bolstering the value of the yuan - just as the greenback was backed up by the world's most formidable military after the conclusion of World War II.

Some say that a sudden downgrade of China's sovereign debt rating by Moody's Investors Service in May sparked the jump of the yuan versus the US dollar, given that the monetary authorities in Beijing would not tolerate attempts by traders and speculators to bet on a decline in the yuan. Others claim US president Donald Trump is the "biggest uncertainty" for Wall Street and the global financial market. The value of the dollar is closely connected to what the US president does and says. For example, Trump favors a strong dollar, but abhors the US trade deficit, which a weaker dollar would help reduce.

Also, Trump has expressed his intention to appoint a new head of the US Federal Reserve when Janet Yellen completes her term shortly. Yellen has said that the US central bank is going to raise interest rates at least three times this year, and the soonest hike will probably come later this month.

A rise in the dollar's interest rate tends to add pressure to the currencies of most emerging economies. So, it is natural for the People's Bank of China to make a tentative shift, resorting to a more discretionary approach to foreign exchange policy, market watchers say.

The bank previously introduced a new adjusting regime - a "counter-cyclical adjustment factor" - to make the yuan/dollar daily midpoint rate more reflective of genuine demand and supply, and to iron out excess volatility in the market.

For a time, the yuan had not been performing in line with the dollar's broader performance, as the foreign exchange market proved to be susceptible to "irrational expectations" that exaggerate one-sided moves, when other Asian currencies, including the Japanese yen, the Korean won, the Malaysian ringgit and Thai baht, all rose.

Now, after the substantive rise in the yuan's value, many organizations have rushed to examine the appreciation and have issued their own narratives. UBS wrote that "poor liquidity" of the yuan in both offshore and onshore markets had driven the currency up. It "now expects the yuan to stay strong and to not move beyond 7 to the US dollar" before the end of 2017.

Most traders believe China will rein in money supply this year and next. And, as market supply drains, the currency will naturally climb in value.

The author is an editor with the Global Times.


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