As I said yesterday, the moves around the Chinese yuan, both price and policy, have the whiff of panic about them. From the FT:
The Chinese government intensified its efforts to stem capital flight from the world’s second-largest economy on Thursday, as it simultaneously moved to slow renminbi outflows and restrict gold imports.
Curbs on international renminbi payments and gold imports are the latest in a string of capital control measures intended to relieve downward pressure on the currencyand protect dwindling foreign exchange reserves. Days earlier, China’s cabinet circulated draft rules restricting large foreign acquisitions, while its foreign exchange regulator began to vet outward remittances as low as $5m, compared with a previous threshold of $50m.
The People’s Bank of China will restrict net renminbi transfers by China-domiciled companies to 30 per cent of shareholder’s equity, according to a document seen by the Financial Times. Previously, there was no limit on the value of such transfers, which were encouraged by Beijing as part of its larger effort to internationalise the renminbi.
Cross-border renminbi payments out of the country hit a record high of Rmb1.7tn ($246.7bn) in the third quarter against only Rmb970bn in inflows, according to central bank data. Authorities previously took a more permissive approach towards renminbi outflows because the accumulation of the currency offshore allows its use for trade and investment outside China’s borders.
In a parallel measure, bankers and traders told the Financial Times that some gold importers have had difficulty obtaining approval to bring in gold as the weakening renminbi raises Chinese investors’ interest in the metal.
The renminbi has slipped 5.8 per cent against the greenback this year, putting it on track for its biggest annual decline on record.
“All these measures are taken in order to strengthen control over capital outflows and check growing expectations for renminbi depreciation,” said Wang Jun, economist at the China Center for International Economic Exchange in Beijing. “Under the circumstances, it’s the only option. We’re losing a lot of foreign reserves.”
It’s all over for the “yuan as reserve currency” movement. This is panic stations to prevent a currency collapse. Why? Because that is the stuff of a financial crisis as the crashing currency balloons offshore liabilities and sends local inflation to the moon forcing the central bank to tighten monetary policy into the bust. We’ve seen that over and again over the years in emerging markets when either global interest rates rise or the US dollar rips.
Let’s recall China’s impossible trinity, that a country can only choose two out of the following three:
- control of a fixed and stable exchange rate
- independent monetary policy
- free and open international capital flows
China has been trying to run this gauntlet by sustaining an overly high growth rate via loose monetary policy and recently liberalised capital markets plus exchange rate. But it can’t have stability in all three and so is in full reverse on the last two to prevent a currency rout.
More from Investing in Chinese Stocks:
China’s officials favored gold as an asset for many years and most interpreted it as a long-term strategy. The bolder claim said China was going to back the yuan with gold. There was the argument China wanted to become the global center of the gold trade. More practically, imports of gold count as imports, but are really a form of savings. Importing gold is a great way to satisfy political pressure surrounding a trade imbalance by shifting some savings activity into the current account. The best evidence was the heavy advertising and investment promotion pushed by the government itself, encouraging Chinese to buy gold.
Now is the time to panic if you’re a Chinese with lots of money tied up in yuan because the Chinese government is signaling two things with this move. One, all exits will be shut. If you don’t escape now, you run the risk of paying a high price to get out because gold premiums will start rising if demand outstrips supply. Two, it signals the yuan is in serious trouble. Gold imported by the banks sits in bank vaults and is effectively a national resource because the government controls the banks. If China decides it wants your gold or your dollars, it can force you to sell.
This reminds me of 2013 post from Liu Junluo: Gold going to $500; Chinese yuan will collapse; China will nationalize dollar deposits
If you adjust the timing of his call, just about everything he warns of (except for the massive drop in gold) has taken place by 2016:
From 2010 onwards, when the Dollar Index was 74, China’s central bank made the strategic decision that the dollar would devalue over the long-term. Therefore, China’s central bank began selling dollars and buying the euro, the yen and commodity currencies to diversify China’s foreign exchange reserves.
However, beginning in 2013 , China’s central bank suddenly found the U.S. economy has been gradually recovering. The euro zone economy has continued into a disastrous predicament. Meanwhile, the Bank of Japan launched a policy of devaluation of the yen.
Between July and October, the Chinese central bank will manufacture China’s disastrous stock market crash. The hidden past strategic errors of judgment will now come to light, exposing China’s bad debts.
From 2010 onwards, China’s central bank took 3 trillion in foreign reserves and converted 2 trillion into non-US currencies, this is the root of the future Chinese economic disaster. roots. In all of human history, there is no central bank that committed such a stupid, catastrophic mistake.
The real farce is that China’s central bank in the coming months will reverse its past dumping of dollars; it will turn into a frenzy of dollar buying. Including a rapid nationalization of domestic U.S. dollar savings.
The stock market crash came 2 years later, after a massive bubble formed, but the long-term strategic error of diversifying away from the dollar, particularly into highly volatile and inversely correlated assets such as commodities, was ongoing for years.
China sold dollars in a rising market and long-term, it may even come out ahead. But China also sold dollars amid a depression, a period of dollar deflation. Now is the final stage: is the depression set to end, or does the U.S. dollar have another 20 percent to go before it tops? If the latter, the move to limit gold imports tells us China is unprepared.
What I fear is a self-fulfilling feedback loop in which the tightening of the Chinese capital account triggers even more USD buying making crisis inevitable. This is made all the more pressing by the threat of Donald Trump in the White House as he mulls some form of trade sanctioning against China which, the logic flows, may result in China responding with a free float of the yuan, and collapse.
Perhaps China is large enough to be able to run this gauntlet without crisis. Does it have enough reserves to prevent a yuan collapse? Who can say? All I know is that the underpinnings for the rising USD are very strong as:
- it leads developed market growth;
- it leads developed market inflation;
- it leads developed market tightening;
- OPEC has just materially boosted all of the above, and
- as this EM and China capital outflow develops, it leads the world as a safe haven currency.
If you ask me, it’s pretty obvious that, if pressed, China will shut its capital account before it lets the breaking trinity disrupt local credit (which would destabilsie politics) so the asset price implications globally are not so much a Chinese financial crisis as they are a bubble bust for anything reliant upon the outwards flow of Chinese capital. That includes residential and commercial property in “global cities” worldwide and reserve currency bond markets worldwide. It might also include commodities though that question is complicated by the Chinese rush to buy futures as a yuan hedge (see iron ore today). Then again, that would surely crash if China were forced to shut its capital account.
There are not many good outcomes here for Australia.
