SHANGHAI (Reuters) – Chinese businesses are hoarding dollars because they expect their own currency to weaken, exacerbating the yuan’s decline caused by volatile stock markets and weak growth in the world’s second-largest economy.
This feedback loop has been operating in mainland China’s foreign exchange markets for months, fueled by rising dollar yields. Foreign currency deposits have risen by $53.7 billion to $832.6 billion since September, data from the People’s Bank of China (PBOC) shows.
Analysts say one of two things must happen to stop the downward spiral: the Federal Reserve needs to make deep rate cuts, or the yuan needs to hit some kind of bottom. Both seem distant.
is at a five-month low and has lost 1.9% against the dollar this year as foreign investors pull more money out of struggling markets. The currency has fallen from about 6.7 per dollar at the start of 2023 to about 7.24 now, a drop of 5%.
Regular inflows from domestic exporters have dried up as businesses prefer to park their dollars offshore in deposits that earn them 6%, compared with 1.5% on domestic yuan deposits, and simply wait for the exchange rate to improve.
Yu Zuochen, director of Chinese electronics equipment maker Goertek Inc, told a forum in the coastal city of Ningbo in late March that exporters “win by lying,” referring to their profits from foreign exchange.
“The exchange rate differential between the US and China is the most positive since 2007, and I think this powerful fundamental fact is enough to explain why Chinese exporters are reluctant to exchange dollars for yuan,” said Alvin Tan, head of Asia currency strategy RBC Capital. Markets. “This huge positive yield dispersion is not going away anytime soon.”
Even for companies that prefer to bring their dollars home, while authorities have capped rates on dollar deposits with major lenders at 2.8% since the middle of last year, there are other dollar-based asset management products that invest overseas funds, offering as much as dollars. 4.4% for 7-day investments.
Becky Liu, head of China macro strategy at Standard Chartered (OTC:), says “confirmation of Fed rate cuts, including a clearer trend towards dollar softening” could be a catalyst for corporates to convert their foreign currencies into yuan.
However, based on the recent string of strong inflation and economic data in the United States, the Fed’s rate cuts are delayed until late 2024 and the dollar is on the verge of falling.
This means it is more likely that the yuan will reach 7.3, at which level exporters will be able to bring dollars home, feeling that the authorities can protect it at this level. This was around the low for the yuan in both October 2022 and July 2023.
Some investment banks also forecast the yuan will weaken to 7.3 per dollar by the third quarter of this year, but no further. A Shanghai banker who works with corporates said some of his clients are now looking at 7.3 as the level to sell their dollars.
TERMS OF TRADE
Chinese authorities don’t seem too concerned about businesses and citizens hoarding dollars. State-owned banks, which usually act on behalf of the People’s Bank of China (PBOC), have been buying up the yuan to stem its decline.
The NBK did not respond to a Reuters request for comment.
Lemon Zhang, strategist at Barclays, said that “exporters’ reluctance to convert their foreign exchange earnings is likely to continue over the next two quarters.”
She doesn’t expect Chinese regulators to force exporters to pay for their foreign exchange earnings, but says smaller macroprudential or tax incentive measures could be introduced instead to encourage conversion.
Despite the decline, the yuan has not fallen as hard or fast as the currencies of some of its trading partners, especially Japan, whose yen has fallen 9% this year, eroding China’s trade competitiveness and eroding its trade surplus.
China’s merchandise trade surplus fell 11% to $593.9 billion in 2023 from a year earlier.
Analysts at China Construction Bank (OTC:) estimate the foreign exchange settlement ratio, which measures the conversion of export earnings into yuan, was just 51% in February as corporate clients placed dollars on deposit.