China’s surging yuan allows Beijing greater financial flexibility, creating capital markets ‘too big to ignore’

The CFETS RMB basket index, which measures the yuan’s value against a basket of foreign currencies, climbed to its highest level since March 2016 last week

The strength is largely driven by China’s large current account surplus, which in turn has been boosted by strong export performance and rising trade surplus

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The Global Public Investor survey, published annually by the London-based OMFIF think tank, showed 30 per cent of central banks plan to increase their reserve holdings of yuan over the next 12-24 months, compared with just 10 per cent last year. Photo: AP

Published: 8:15pm, 26 Jul 2021Updated: 8:15pm, 26 Jul 2021

A trade weighted index looking at the value of China’s yuan climbed to a five-year high last week, and analysts expect the currency to remain at elevated levels in the foreseeable future as the government allows greater flexibility and tries to remove distortions in the economy.

A simulated CFETS RMB basket index, which measures the yuan’s value against a number of foreign currencies, climbed to 98.70 on Friday, marking its highest level since March 2016, according to the China Foreign Exchange Trading System & National Interbank Funding Centre (CFETS), which is a sub-institution directly affiliated to the People’s Bank of China.

The strength in the yuan’s value was largely driven by China’s large current account surplus in the past year, which in turn has been boosted by the nation’s strong export performance and rising trade surplus.

Beijing’s liberalisation policies have also accelerated capital inflows into its equity and bond markets, helping to support the yuan, according to Chen Dong, senior Asia Economist at Pictet Wealth Management.

What the government did was simply to make it easier for global investors to access its markets. That was an important move and so we saw a huge rise in portfolio inflows into China

Chen Dong

“Chinese capital markets are simply too big to ignore,” said Chen. “What the government did was simply to make it easier for global investors to access its markets. That was an important move and so we saw a huge rise in portfolio inflows into China.”

In 2015, the PBOC imposed harsh capital controls, squeezed interest rates and burned through nearly US$320 billion of its foreign currency reserves to support the yuan’s value to quell market panic after a sharp decline in the stock market and an unexpected devaluation of the yuan.

The financial meltdown was sparked by a devaluation in the yuan by nearly 3 per cent against the US dollar in two days and the government’s crackdown on margin-financing activity in equities.

But in recent years, the PBOC has been relaxing its capital account to internationalise the yuan in a controlled way through market access programmes such as the Bond Connect, Stock Connect and Wealth Management Connect scheme with Hong Kong. It is also expanding the quota for the Qualified Domestic Institutional Investor and Qualified Domestic Limited Partnership programme.