China moves to curb yuan's rapid appreciation amid rising inflation

Author: Nurluqman Suratman

2021/06/02

SINGAPORE (ICIS)--China’s central bank will raise the amount of cash that financial institutions must hold as reserves for their foreign exchange deposits, in a move to curb the rapid appreciation in the yuan (CNY), which makes exports including those of some petrochemicals less attractive.

The People’s Bank of China (PBoC) on 31 May said that it will increase the reserve requirement ratio (RRR) for foreign exchange deposits by 2 percentage points (pp) to 7% from 5%, effective 15 June.

This was the first time in more than a decade that the PBoC has hiked the RRR.

The yuan between April and May 2021 appreciated by 3.1% against the US dollar, reaching 6.36 on 31 May – a three-year high.

The yuan was at 6.38 against the US dollar on Wednesday 2 June, versus 7.13 exactly a year ago and 6.47 on 2 May.

A stronger yuan makes Chinese exporter’s products less competitive when they are sold in overseas markets.

The stronger yuan has weighed on China's polypropylene (PP) exports, amid high freight costs and a shortage of containers.

The hike is seen as the PBoC’s first real move to arrest the appreciation of RMB, said Japan’s Nomura Global Markets Research.

“The RMB [yuan] has appreciated strongly since late-May 2020 owing to China’s containment of COVID-19, impressive exports and the rapid growth recovery,” it said in a note.

“The pace of RMB appreciation accelerated in April-May 2021, due partly to strong capital inflows and market expectations that the PBoC may consider allowing RMB to appreciate to offset imported inflation,” it said.

The strengthening in the yuan comes amid rapidly rising prices of commodities and in heavy industry.

The hefty rise in China’s PPI inflation has so far predominantly been driven by rapid increases in commodity prices, combined with rising costs of shipping and other supply side pressures.

“Significant appreciation of the renminbi recently means that while output prices in light industry and for machinery and equipment remain well-behaved in CNY terms, they are rising by high single digits in US dollar terms,” Oxford Economics said in a note.

“If these price increases are sustained, it could lead to substantial consumer price inflation and thus force the PBoC to tighten monetary policy prematurely,” it said.

Other concerns are that profitability in downstream sectors could get squeezed excessively, while some worry that the price pressure may spill over into prices for exports, potentially leading China to “export” its inflation, Oxford Economics said.

China’s overall PPI inflation reached 6.8% year on year in April is expected to be even higher in coming months, it added.

Caixin in the report for its monthly manufacturing purchasing manager's index for China said that average cost burdens in Chian rose rapidly in May, with the rate of inflation the quickest since December 2016.

Firms generally passed on greater input costs to clients by raising their output prices which increased at the fastest rate since February 2011, it said.

"The gauge for input costs pushed deeper into expansionary territory and rose to the highest reading since December 2016. The pressure of upstream costs was transmitted downstream," said Wang Zhe, senior economist at Caixin Insight Group.

"The measure for output prices jumped above 60, hitting the joint-highest point since November 2010. The measure for export prices rose to the highest in three years amid rising transportation costs," Zhe added.

Focus article by Nurluqman Suratman

Photo: The Chinese yuan currency sign. (Pavlo Gonchar/SOPA Images/Shutterstock)