What's next for the renminbi?
Nicky Burridge looks at the fortunes of the renminbi in recent months and considers the future.
The renminbi (RMB) has endured a volatile year as it continues its journey to becoming a global currency.
1 October marked a significant milestone as it was officially included in the International Monetary Fund’s Special Drawing Right (SDR) currency basket for the first time.
The move gives the currency membership of an elite club, putting it alongside the US dollar, euro, British pound and Japanese yen.
But the RMB milestone was soon overshadowed by a steep decline. It dropped by 1.5% during October to a six-year low against the US dollar.
Overall, the RMB has lost more than 4% of its value against the US dollar since the start of 2016.
The fall during October was driven by the greenback strengthening on the back of expectations of further US interest rate rises, rather than a weakening in the RMB.
Deputy Governor of the People’s Bank of China (PBoC), Pan Shenggong was quick to point out that other major and emerging market currencies had also fallen against the US dollar at the same time, while the RMB had increased in value against a basket of currencies.
Even so, the sharp fall in the RMB’s value brought back memories of the steep slide in August 2015, when it fell almost 2% in a day. This was the biggest daily depreciation since 1994 and signaled a drop of 3% over the whole month.
The sudden fall caused the US to accuse China of engaging in currency wars to provide a shot in the arm to its flagging exports. The PBoC denied this and insisted the devaluation was caused by to its decision to switch to a more market-led method of calculating the renminbi’s value – a key requirement for its inclusion in the IMF’s Special Drawing Rights basket.
Foreign reserve spending
It also led to China spending around half a trillion US dollars in foreign reserves in a bid to maintain the currency’s value.
The move has left reserves at their lowest level since April 2011, standing at US$3.166tn in September this year.
This puts Chinese policymakers in a difficult position: should they stabilise the renminbi or their monetary policy?
Unlike last time, when China was accused of manipulating its currency, this time BPoC officials have been at pains to stress they expect the RMB to be broadly stable.
But analysts are less sure.
Experts predict weakness
Teck Leng Tan, foreign exchange market analyst at UBS CIO Wealth Management, predicts further declines for the RMB, expecting it to drop from its current level of 6.8 RMB to the US dollar to 7 by mid-2017.
He says: “We believe Chinese policymakers will retain their existing strategy of guiding the renminbi (CNY) weaker.
“They push USD-CNY higher during periods of US dollar strength, while claiming that the trade-weighted CNY remains stable, and prevent USD-CNY from falling during periods of US dollar weakness, claiming that USD-CNY remains stable.
“We expect them to maintain this strategy in 2017, causing the renminbi to weaken, both versus the US dollar and in trade-weighted terms.”
There are also those who fear the continued weakness of the RMB could lead to a rout as wealthy individuals and companies in China move their money offshore to protect its value.
Beijing has responded by tightening capital controls to prevent a downward spiral of outflows.
Liberalisation moves continue
Meanwhile, the government is continuing to introduce reforms as part of its ongoing current account liberalisation programme and move towards a fully floating renminbi.
These reforms have included opening the onshore interbank-bank FX market to foreign central banks in May, and the issue of a RMB3 billion bond in London, the first time the PBoC has done an RMB issue outside of China and Hong Kong.
It has also launched a Cross-border Inter-bank Payment System (CIPS) that is compatible with international payment network SWIFT to make cross-border renminbi payments simpler, faster and cheaper.
And most recently it approved the stock trading link between Shenzhen and Hong Kong, enabling foreign investors to trade shares in Chinese companies for the first time.
But these reforms have taken place against a backdrop of slowing economic growth in China, extreme stock market volatility and massive capital outflows.
Janet Zhang, of CFA Institute, explains that the downward pressure on the renminbi stems from a combination of factors, including concerns that China’s economy is slowing faster than expected, changes to the exchange rate policy and declining foreign reserves.
Zhang says: “This puts Chinese policymakers in a difficult position: should they stabilise the renminbi or their monetary policy?”