Yuan Deposit Growth Slows; Investors Dump Yuan for Dollars; What Would Happen if China Floated the Yuan?

Inquiring minds are reading the South China Morning Post which says Yuan deposit growth slowing

Yuan deposits in Hong Kong may have dropped significantly last month due to falling trade volumes with the mainland and a weakening of the currency in the offshore market, analysts said. Bankers and analysts said while the brake could be a positive for local banks in the short term, if the trend continued it could impact their strategy to bet big on yuan business. The slowdown could also drag the pace of the internationalisation of the yuan, while not derailing it.

Daniel Hui, HSBC foreign-exchange strategist, said this week that yuan deposits in October could show "a sizeable decline". This would be a huge reversal from the upbeat expectations markets had at the beginning of the year, when forecasts reached 1 trillion yuan.

The Hong Kong Monetary Authority has yet to release October figures on yuan deposits, but by the end of September there was about 622 billion yuan in the city.　 "Based on recent trends, I would be doubtful that the figure could top 700 billion yuan at the end of the year," said Frankie Kwong, treasurer of Wing Lung Bank. He said if the trend continued into the first quarter of next year it could pinch banks betting big on pushing their yuan business, meaning they would have to adjust their strategy accordingly.

Investors Dump Yuan for Dollars

Michael Pettis at China Financial Markets had lengthy comments and an interesting chart on the above article via email. Here is a short text snip (minus the chart) in the sake of fairness. His complete article will appear on his website shortly.

Pettis writes ....

China of course suffers less from flight capital risk than Europe, but hot money does seem less eager than in the past to enter the country, and outflows seem still to be increasing.　 Regular readers know that I have always been skeptical about the excitement over RMB internationalization, and I consider much of the evidence to be exaggerated or misleading.　 What drove the redenomination of trade into RMB, I have always believed, was not transactional interest but largely speculative interest.

One of the strongest pieces of evidence for my saying this was that nearly all of the trade that had been redenominated into RMB had to do with Chinese imports, and almost none of it with Chinese exports.　 Remember that Chinese imports in RMB leave the seller long RMB in their offshore accounts.

In that case as long as there was speculative demand for RMB, it made sense to redenominate Chinese imports into RMB in order to provide off-shore investors with legal long positions in RMB.　 But now that the speculative demand for RMB seems to have dried up, at least temporarily, some of the excited talk about the glowing future for offshore RMB business is fading.

In the past couple of months the value of the RMB during daily trading has plummeted, even more sharply than it had after the Lehman crisis, and the PBoC has had to set the morning parity at a premium to the previous day’s close in order to maintain the appreciation trend of the RMB.　

Daily trading seems to suggest that investors are eager to dump RMB against dollars.　 If this is true, it is not surprising that central bank reserves in the third quarter rose by so little ($4 billion) even though the current account surplus was around fifteen times that amount.

What Would Happen if China Floated the Yuan?

For months China was attempting to slow appreciation of the Yuan to the consternation of the Fed, Congress, and Treasury Secretary Geithner.

Now China is acting to prop up the Yuan. Thus, and contrary to popular myth about the alleged massively undervalued Yuan, were China to let the Yuan float right now, the currency might sink because "hot money" has given up.

Imagine the uproar in Congress if China did float the Yuan and it held steady or dropped.

A slowing China is bullish for the dollar (at least in isolation). For details and a complete discussion, please see Perfect Storm; Eight Reasons to be Bullish on the US Dollar.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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