China looks to curb speculation

Reuters is reporting that Chinese officials have decided to begin checking foreign exchange buying by Chinese companies in order to nab speculators.

The news agency quotes an official with the State Administration of Foreign Exchange as saying that the government is worried some firms have been buying foreign currency in excess of “real and rational use.”

The move is part of a larger operation intended to address illegal cross-border financial transactions in the wake of last month’s precipitous devaluation of the yuan, the news agency reports. Officials appear to be trying to stave off a panic.

In the wake of last month’s sharp drop in values, some firms reportedly have been buying large amounts of foreign currency. In response, officials have told Chinese banks to more closely monitor foreign exchange transactions and keep eyes open for anything that looks suspicious.

China holds the world’s largest forex market. The Market Realist reports that China’s August forex reserves declined by $93.9 billion, bring the country’s forex reserves to a total of $3.56 trillion by the end of that month.

About two-thirds of those forex reserves are in U.S. dollars, with another quarter of the reserves in euros. The remainder is largely pounds sterling and Japanese yens, according to that source.

That’s about in line with the global average, Market Realist reports , where U.S. dollars represent about two-thirds of international trade transactions. Countries trade in forex for emergency funds, to finance trade payments or influence domestic current exchange rates.

According to Market Realist:

China’s forex reserves have been massive – equal to about two years of their total value of imports into the country (most countries usually hold around three months of import value in their central bank). In June, 2014, China was holding on to more than 4 trillion in USD. Even after August’s purge, China held about $3.56 trillion in USD.

Ever since the market shakeup in China that started last June and ended up with the August crash, the Chinese government has been trying to control the damage.

But the selloff didn’t come out of nowhere, and, in retrospect, should have been anticipated. In less than a year, the Chinese government had cut interest rates repeatedly, hoping to make it cheaper for investors to borrow funds. Secondly, the government devalued the yuan in order to try to boost exports from the country, even though data showed there were troubling slowdowns in the economy. Chinese stock tickers show a slow slide from May through September of this year, with no turnaround in sight.

The government’s response was to implement a massive buyback, purchasing around $50 billion in yuan during the month of August.

Analysis:

So what does this mean for the future? What can we expect to see in the next six to 12 months? As China’s economy continues to evolve from an export-driven manufacturing center to a more mature balance with domestic consumption-driven growth, that could lead the country to revise its forex reserve policies in a more serious, long-term and substantive way. Given China’s massive role in the international markets, this could have far-reaching effects.

One thing that is certain, all eyes will continue to be on China to see how well this manufacturing behemoth manages the transition of its economy and the recent market shakeups, and what the outcome will be on the forex market. As with everything that comes out of China, it’s certain to have significant implications for forex traders and economies around the globe.

Categories: News

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