By Lingling Wei
BEIJING -- China's foreign-exchange reserves fell to the lowest
level in nearly six years last month, testing the central bank's
resolve to control the yuan's descent to a pace it dictates.
The People's Bank of China said Saturday that the world's
largest stockpile of foreign currency fell $41.08 billion in
December to $3.011 trillion, the lowest level since March 2011. The
decline was smaller than the previous month's drop of $69.06
billion and was largely in line with analysts' expectations.
The drop underscored the central bank's willingness to dip into
reserves to buy up yuan and use capital controls and other tools to
try to prop up the currency and restrain businesses and individuals
rushing to send money offshore.
As the yuan keeps falling, more money is leaving China. A net
$69.2 billion left the country in November, compared with a monthly
outflow of about $50 billion since June, Goldman Sachs Group Inc.
estimates.
How Chinese officials manage the yuan and the rise in capital
outflows are major questions hanging over the world economy. Many
investors say if the yuan declines too rapidly and capital flight
from China intensifies, that could have a destabilizing effect on
global markets.
Stocks and other risky assets plunged in 2015 after a surprise
devaluation of the yuan, and markets across the globe sold off at
the start of last year in part over concerns that China would
devalue the currency again.
China's foreign-exchange regulator, an arm of the central bank,
said efforts to stabilize the yuan are the main reason for the drop
in the reserves. Other factors, it said, include the strengthening
of the dollar against other currencies such as the euro, which dent
the value of nondollar-denominated assets in the reserves in dollar
terms.
The central bank is walking a tightrope trying to gradually
deflate a currency that is widely seen as overvalued after years of
steady appreciation. But just as betting on the yuan's rise seemed
a sure bet for many years, the current strategy is reinforcing a
belief among businesses and individuals that the yuan will keep
falling, causing them to cash out and putting further downward
pressure on the currency. To prevent the yuan from falling too
fast, the central bank has burned through about $1 trillion of the
reserves in the past 17 months.
The yuan dropped 4% in the fourth quarter, triggered by a
surging dollar and accelerated capital outflows. To arrest the
descent, in recent days the central bank has guided the yuan
stronger and made the currency scarcer in Hong Kong, where it is
freely traded, to confound market expectations and discourage
wagers against the yuan.
For now, Beijing is sticking to the current way of managing the
yuan and has ruled out letting it find its bottom quickly. At a
high-level meeting last month, China's leadership, which has the
final say in China's exchange-rate policy, named maintaining the
yuan's stability as a key economic task for this year.
Meeting that goal, however, will likely be made harder by a new
U.S. administration led by Donald Trump, which has signaled a
tougher approach to trade with China, escalating tensions between
the two. More interest-rate increases by the Federal Reserve would
make U.S. assets more attractive, potentially luring more money out
of emerging markets including China.
"The combination of a Trump presidency and a more hawkish Fed
threatens China's exchange-rate policy," said Komal Sri-Kumar,
president of Sri-Kumar Global Strategies, a Santa Monica,
Calif.-based macroeconomic consultant.
Given the tougher prospects and the dwindling stockpile of
reserves, some prominent Chinese economists are urging policy
makers to halt market intervention and let the yuan find its market
value. Yu Yongding, an economist at government think tank Chinese
Academy of Social Sciences and former adviser to the central bank,
said China has a window from now until Mr. Trump's inauguration
Jan. 20 to let the yuan weaken to an equilibrium level. Mr. Trump
has threatened to label China a currency manipulator and slap
blanket tariffs on Chinese imports.
Mr. Yu and others argue that the central bank could find itself
in a vicious cycle: As it repeatedly draws on the reserves to prop
up the yuan, doubts grow about its ability to keep the currency
stable, which causes more money to leave the country, eroding the
reserves further.
Since August 2015 when the central bank devalued the yuan by
about 2%, the Chinese currency has weakened by more than 10%
against the dollar and by 7% against a basket of currencies of
China's major trading partners. Economists at UBS Group AG estimate
that the yuan is still modestly overvalued. A 10% depreciation of
the yuan when measured against the currency basket could boost
China's economic growth by 1% through increased net exports, the
UBS economists estimate.
One question now is how much foreign currency China needs to
have in reserves. When the stockpile peaked in mid-2014 at nearly
$4 trillion, Chinese officials were concerned that the reserves had
become too big to manage efficiently. Much of the reserves were in
low-yielding U.S. government bonds.
The current $3 trillion still gives Beijing a large war chest to
meet its obligations to foreign creditors. The reserves are twice
the amount of China's foreign debt, six times its short-term
external obligations and can cover more than 20 months of
imports.
But the reserves appear to be less than abundant if gauged by
another measure, the ratio of the currency reserves to M2, or the
broad money supply, which includes savings deposits and
money-market funds as well as cash. The International Monetary
Fund, World Bank and others use the M2 ratio to gauge the
sufficiency of countries' exchange reserves. The higher the ratio,
the lower the likelihood of huge flight into other currencies.
Based on that measure, China should maintain between $2.13
trillion and $4.26 trillion of currency reserves to fend off any
destructive capital outflow, according to economists at the Chinese
Academy of Social Sciences.
"China has enough reserves to cover import bills and foreign
debt payment but not for defending the currency over a long time,"
UBS China economist Wang Tao said.
Pei Li contributed to this article.
Write to Lingling Wei at lingling.wei@wsj.com
(END) Dow Jones Newswires
January 08, 2017 18:42 ET (23:42 GMT)
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