CNY NEERing the End
- By Mirza Baig
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- 3 min read
High-frequency data on FX settlement through end-February shows net flows have remained in surplus (Chart 2). This is thanks to portfolio inflows to local bonds and increased settlement on current account transactions. While the PBoC steered away from outright intervention, state-owned banks stepped up to absorb the surplus.
The upshot is that, from the PBoC’s perspective, the RMB is still appreciating and flows in the FX market are not in balance, despite the recent backup in USD/CNY. As such, authorities will likely press on with policies to create more channels for outflows.
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Summary
- After a brief run at 6.40 in February, USD/CNY has pulled back and is now roughly unchanged on a YTD basis.
- The pullback was largely the result of broad USD strength.
- On the PBoC’s preferred NEER index (CFETS NEER), the renminbi appreciated by 2.5% this year and is now at its strongest level since early 2018.
Market Implications
- Neutral fx: Further upside in RMB NEER is limited
High-frequency data on FX settlement through end-February shows net flows have remained in surplus (Chart 2). This is thanks to portfolio inflows to local bonds and increased settlement on current account transactions. While the PBoC steered away from outright intervention, state-owned banks stepped up to absorb the surplus.
The upshot is that, from the PBoC’s perspective, the RMB is still appreciating and flows in the FX market are not in balance, despite the recent backup in USD/CNY. As such, authorities will likely press on with policies to create more channels for outflows.
Authorities have already taken some steps. For example, they increased QDII quota by a small amount ($9bn) and allowed annuity funds to participate in stock connect late last year. The latter was partly responsible for the sharp acceleration in outflows through stock connect in January-February. Several other measures are in the pipeline, namely:
- Bond connect southbound channel. Expected launch is Q2/Q3.
- Wealth management connect scheme. Greater Bay Area residents will be able to invest in products that HK/Macau banks issue; expected launch is in H2.
- Pilot program under QDLP and QFLP schemes. These allow foreign asset managers like Blackrock to raise funds in China for overseas investment in private equity projects.
- Further increase in QDII quotas. This will be in annual increments, depending on uptake.
- Accelerate outbound corporate M&A approvals. Outbound corporate M&A faced much scrutiny in recent years due to concerns over illegal capital flight. Authorities now see these deals more favourably, especially where this supports strategic aims to secure supply chains.
- Retail quota ($50K/year) to allow more flexibility. SAFE is studying proposals to relax limits on personal capital accounts to allow retail investors to buy foreign stocks and insurance. However, Beijing just started the ‘feasibility study’. And judging by the experience of DCEP, stock connect, etc., from study to implementation can take about three years.
Would these measures lead to a depreciating trend in RMB? It is difficult to say. Many factors drive FX markets. The authorities’ intention is to balance FX flows and keep the CFETS NEER in a stable range, assuming all else remains the same. However, it is possible that, by the time these steps are taken, the USD is bid and China’s export orders are rolling over. With the tense atmosphere in US/China relations, the fate of the Phase 1 trade deal when it lapses in February 2022 is unclear. In that context, the unfortunate timing of these announcements could create a double whammy for the renminbi. But I am yet to board the RMB bear wagon. The confident takeaway here is simply that further upside in RMB NEER is quite limited.
Mirza is a macro strategist, specialising in Asian FX and fixed income markets. Mirza is currently working as a desk analyst at Morgan Stanley, prior to which he worked in macro strategy roles at BNP Paribas and Deutsche Bank
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