Cash floods into China, raising pressure on yuan

By Langi Chiang and Kevin Yao

BEIJING (BestGrowthStock) – China’s foreign (Read more about foreign investment into China) exchange reserves soared in the third quarter and its trade surplus remained hefty, showing that the country is under both economic and political pressure to let the yuan rise more quickly.

China’s stockpile of currency reserves, already the world’s biggest, increased by $194 billion from July to September, the most ever in a three-month period, to reach $2.65 trillion.

Although about a third of that rise could be explained by valuation effects in the form of a weakening dollar, the eye-popping number left little doubt that cash has been flooding into China.

A rebound in exports was one main channel, but investment and hot money inflows also powered the flows. Sustained yuan appreciation since August and a bull run in the Chinese stock market appear to be exerting a magnetic pull on investors.

“Foreign exchange reserves increased by too much in the third quarter,” said Liu Dongliang, an analyst at China Merchants Bank in Shanghai.

“We are caught in a dilemma. If the yuan exchange rate continues to rise, more hot money will be sucked in. But we have no better option right now and the yuan will continue to ascend.”

Against a background of rising pique in the United States, China has let the yuan climb more quickly in recent weeks, making for total appreciation of 2.4 percent against the dollar since it was unshackled from a nearly two-year peg on June 19.

DEALING WITH INFLOWS

In a sign that the People’s Bank of China is already grappling with the problem of capital inflows, it raised reserve requirements for six of the country’s biggest lenders this week, a move that will help lock up about 200 billion yuan of cash.

With the economy increasingly flush with liquidity, Chinese banks were freer with their lending in September.

They extended 596 billion yuan ($89 billion) in new local-currency loans in September, compared with August’s 545 billion yuan. Analysts had expected a rise of 500 billion yuan.

Beijing will have to redouble its controls on bank lending to keep new credit issuance within its full-year target of 7.5 trillion yuan, an important part of its normalization of monetary policy after an unprecedented loan surge last year to counter the global financial crisis.

“We expect the government will continue to control its lending quota in the coming months to ensure it reaches its full-year target,” said Wang Han, an economist with advisory firm CEBM in Shanghai.

“The central bank will not raise interest rates this year, because it believes the quantitative tools so far are effective.”

TRADE SURPLUS DIPS

In another data release on Wednesday, China’s September trade surplus dipped to a five-month low, but was still hefty at $16.9 billion. Analysts had expected an $18.0 billion surplus.

“The trade surplus is smaller than expected, but pressure from the United States for yuan revaluation will remain strong because it is an election year,” said Thio Chin Thio, a currency strategist with BNP Paribas in Singapore.

Beijing did what it could to cast the latest figures in a flattering light ahead of a U.S. decision due on Friday about whether to formally declare for the first time that China manipulates its currency.

In its release of the data, the General Administration of Customs noted that that month-on-month import growth hit a record high.

But there is little chance that this will silence critics of Beijing’s managed exchange rate regime.

“Note that $145 billion in exports is only a fraction below the July record high, so there will be plenty of ammunition for those pushing China on the yuan at the G20 meetings,” said Sean Callow, a currency strategist with Westpac in Sydney.

A G20 summit in Seoul in mid-November and U.S. Congressional midterm elections earlier that month are sensitive political dates, before which many analysts believe China will push through faster yuan appreciation to blunt foreign criticism.

A smaller Chinese trade surplus is seen as an essential component of the rebalancing that is needed to put the global economy on sounder footing.

While foreign critics often emphasize the importance of a stronger yuan in achieving that goal, Beijing’s retort is that this focus is too narrow. It says that a broader series of reforms, such was building up the country’s welfare system, will over time encourage more domestic consumption.

($1=6.673 Yuan)

(Additional reporting by Aileen Wang; Writing by Simon Rabinovitch; Editing by Ken Wills)

Cash floods into China, raising pressure on yuan