China capital controls help slow cash outflows

Central bank sold fewer dollars as channels close to move money offshore

Measures taken by Beijing to stem capital flight proved partially effective in December as China’s foreign exchange reserves continued to fall but at a slower pace than in previous months.

The central bank announced a lower than expected drop in foreign exchange reserves for last month, which fell by $41bn to $3.01tn. A Reuters poll of analysts predicted a $51bn fall for the month after reserves came down by $70bn in November.

The People’s Bank of China has been anxious to slow the depreciation of the renminbi, which fell 6.6 per cent last year against the dollar. But simply selling off dollars to defend the currency has been expensive — reserves in 2016 fell from $3.3tn to just above $3tn.

With an eye on saving reserves, monetary authorities deployed a series of new capital controls at the end of 2016 designed to slow capital outflows.

The reserve data came as investors debate the renminbi’s likely direction after a surprise two-day surge wrongfooted China bears betting on further depreciation. Last week the offshore renminbi jumped 2.6 per cent in two days — its biggest-ever two day gain against the dollar since it was introduced in 2010 — while the onshore rate reached its highest level in more than a month.

The continued capital outflow heightens the possibility that Beijing will either increase measures to keep cash in the country, such as cracking down on personal exchange limits, or make a one-off devaluation to relieve pressure on the currency.

HSBC estimated that the cental bank sold off about $26bn in December in its continued struggle to prop up the flagging renminbi, while $15bn of the drop in the value of reserves was due to a rising dollar. That was lower than in November when $35bn of the decline was due to intervention by the central bank.

The smaller fall in reserves nonetheless showed that pressure on the renminbi continues, as many Chinese people seek to get money out of the country.

“The regulatory framework has been tightening, thereby taking the pressure off just deploying FX reserves. This means that FX reserves will probably continue to decline but at a slower pace,” said Paul Mackel, head of emerging markets forex research at HSBC in Hong Kong.

Beijing began to impose new capital controls in November, including strict limits on large corporate investments abroad, in an effort to close off an avenue widely used to get money out of China.

“China’s FX policy has become increasingly defensive in stabilising [renminbi] depreciation pressures over recent months,” said Mr Mackel.

The controls have made life complicated for many multinational companies — even routine business operations such as paying dividends abroad have been subject to delays and new scrutiny, according to a report by the EU’s Chamber of Commerce in China last month.

The capital controls also present risks for Chinese companies that helped the renminbi appreciate by borrowing dollars and converting them into the currency, according to Kevin Lai, chief Asia ex-Japan economist at Daiwa Capital Markets.

The renminbi appreciated by about 37 per cent over a period of nine and a half years before it began to fall in value against the dollar as companies bought the currency.

“These borrowers must be under real pressure now to get out,” Mr Lai wrote in a report. “If they cannot do so because of more capital controls, what will happen to the banks they borrowed the dollars from?”

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